Rethink Possible AT&T Inc. 2012 Annual Report 2012 financial highlights

Continued MOMENTUM in Growth Drivers

For full-year 2012, excluding our divested Advertising Solutions business unit, 81 percent of AT&T’s $126.4 billion in revenues came from our key growth drivers, which grew nearly 6 percent.

of total revenues grew 81% nearly 6% year over year 19% 28% 53%

Voice/ Wireline Data/ Wireless Other Managed IT Services

REVENUE Growth

Excluding Advertising Solutions, AT&T’s full-year 2012 revenues grew 2.4 percent versus 2011.

2012 $126.4B Reported $127.4B 2011 $123.4B Reported $126.7B

Strong Earnings Growth

Excluding significant items, 2012 full-yearEP S grew 8.5 percent year over year.

2012 $2.31 Reported $1.25 2011 $2.13 Reported $0.66

Record Cash Generation

AT&T generated best-ever cash from operations and free cash flow in 2012, which let us return a record $23 billion in cash to shareowners, including dividends and share buybacks. Free cash flow is cash from operations minus capital expenditures.

Free Cash Flow Cash from Operations 2012 $19.4B 2012 $39.2B 2011 $14.5B 2011 $34.7B AT&T Inc.

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To our investors ••• A year ago we talked candidly about the issues our company faced and how we intended to address them. Our number one priority was to add spectrum, the airwaves that carry our customers’ mobile communications. We also said we would accelerate our company’s shift to growth businesses. And I made it clear that we would take steps to further improve our capital structure and return value to our shareowners.

We took these objectives head-on, executed for our customers, and as a result, we have significantly strengthened how AT&T is positioned for the years ahead. Here’s what we’ve done:

• We signed nearly 50 transactions last year • We posted the largest annual increase in total to add new, high-quality mobile capacity — AT&T U-verse TV and broadband subscribers in our including WCS spectrum that previously was not history, bringing our total to more than 8 million. available for mobile broadband. This increased Our U-verse revenues grew 37.9 percent to end the our average nationwide spectrum holdings by year at a $10 billion annualized run rate. a third, which gives us a good runway to deliver • Our most advanced business services, which further innovation and growth. now make up $6.5 billion in annualized revenues, • With this newly acquired spectrum as a also grew at a double-digit clip. foundation, we launched our company’s most • Overall revenues grew to more than $127 billion, comprehensive organic growth plan in several the highest total in our company’s history, and decades. Called Project Velocity IP — VIP, this plan adjusted earnings per share increased 8.5 percent. will let us reach millions more customers with advanced technology and new services. • Cash from operating activities topped $39 billion, up 12.8 percent from the previous year and our In addition to these strategic steps, we added more best total ever. customers to our growth platforms and increased overall revenues, which allowed us to continue • We invested $20.4 billion in capital expenditures robust investment in networks and new products: and spectrum purchases to expand and upgrade • We increased our total wireless subscriber base our network capabilities for customers in the to 107 million and continued to lead all major U.S. United States and around the globe. We more wireless providers in smartphone penetration than doubled the U.S. population covered and average revenues per wireless contract by our 4G LTE network — the industry’s most subscriber. Our mobile data revenues grew advanced, high speed wireless technology — and 17.8 percent to a $27 billion annualized run rate. deployment continues to run ahead of schedule. AT&T Inc. to our investors

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• We increased our quarterly dividend for the The United States has led the world in this 29th consecutive year and paid out more than revolution, and I’m proud to say that our company $10 billion in regular quarterly dividends — the has been at the forefront — delivering the fast, most in our history. mobile connectivity that’s the foundation for all of this innovation. • We also repurchased 6 percent of our total shares outstanding. Combining dividends and share We’ve come very far, very fast. But we’re still early. buybacks, our company returned $23 billion to To date, the mobile Internet has been defined for shareowners in 2012, the highest total in our history. most of us by what we can do on our devices — so much so that most of us think of the past few years • We refinanced $12 billion of our debt, taking as the smartphone era. advantage of historically low interest rates. But today and in the years ahead, the services • In addition, the investments in our pension fund we provide are poised to play an even more posted solid returns, and we took an important transformative role. We’re now riding the next waves step to solidify our commitment to our employees of innovation, moving into the mobile life era — by seeking to contribute a preferred equity interest where advanced communications connect virtually in AT&T Mobility, our best asset, to our pension everything and where every aspect of our customers’ trust. We expect to gain the approvals needed for personal and work lives are more intelligent and this contribution in 2013. immediate, without regard to device or location.

It’s notable that all of this investment has come How our customers buy things, manage their during a time of economic uncertainty. Many health, secure their homes, access entertainment, companies pulled back during this period. But how they learn and make decisions, how they travel we’ve maintained our financial strength and and discover — all this and much more is quickly kept our focus on delivering for customers over being reimagined. the long haul, which has allowed us to invest aggressively through the cycle. For several years Our business customers, too, are finding new ways now, AT&T has invested more capital into the U.S. to speed growth and operate more productively economy than any other public company. with fully connected solutions. For example, there’s tremendous potential to transform our The past few years also have been a time of healthcare ecosystem — and make everything dramatic technological change for our industry. from record keeping, billing and payment to Smartphone adoption in the United States has diagnosis, monitoring and ongoing care faster soared. Tablets and other mobile Internet devices and more efficient. In much the same way, mobile are now on a similar trajectory. The global mobile payments are transforming the way our customers apps ecosystem has exploded into a major industry, conduct commerce — moving from plastic credit far beyond what anyone conceived just a few years cards to secure, personalized wallets accessible ago. And because of these developments, how our on mobile devices. customers live and work has forever changed. to our investors AT&T Inc.

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Randall Stephenson Chairman, Chief Executive Officer and President

The foundation for all of this is smart, seamless Companies such as ours have a responsibility as high speed broadband connectivity — delivered well — to take the initiative and step up to long-term by meshed wireless and wired networks. This is financial commitments. That’s exactly what we’re the heart of what our company provides. doing with Project VIP:

So, what’s required to accelerate this • We plan to expand our 4G LTE high speed, wireless new world? data network to cover 300 million people by the end of 2014, 50 million more than our original plan. Capital investment To build the pervasive, smart, high-capacity • To deliver an even better experience, we networks that our customers expect takes plan to make this network more dense through large-scale capital commitments. So, our entire extensive use of innovative small cells in addition industry and its surrounding ecosystem of to traditional wireless towers. suppliers and innovators need tax policies and regulatory approaches that create an attractive • We plan to expand our U-verse customer reach environment for investment. by approximately a third and drive IP broadband AT&T Inc. to our investors

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AT&T Leadership Team

Left to Right: Standing Randall Stephenson, Chairman, Chief Executive Officer and President; John Stankey, Group President and Chief Strategy Officer;R on Spears, Senior Executive Vice President-Executive Operations; Wayne Watts, Senior Executive Vice President and General Counsel; Cathy Coughlin, Senior Executive Vice President and Global Marketing Officer; Bill Blase Jr., Senior Executive Vice President-Human Resources. Seated John Stephens, Senior Executive Vice President and Chief Financial Officer; Ralph de la Vega, President and Chief Executive Officer, AT&T Mobility; Lori Lee, Executive Vice President-Home Solutions; Andy Geisse, Chief Executive Officer-AT&T Business Solutions; Jim Cicconi, Senior Executive Vice President-External and Legislative Affairs, AT&T Services, Inc.; John Donovan, Senior Executive Vice President-AT&T Technology and Network Operations.

connectivity deeper into our wireline network by These investments will provide a much broader year-end 2015, to reach more of our customers platform for a wide range of innovative services where they live and work. and solutions, a number of which are profiled in the following pages. • We plan to deploy high speed fiber connections to 1 million additional business customer locations Accelerate the pace of innovation by year-end 2015. Capital investment and great networks provide the foundation, but the next step is equally important — • Once Project VIP is fully implemented, nearly that’s a mindset and a commitment to accelerate all of our customers will have access to high speed innovation and change. Everyone benefits — and IP broadband, either wireless, wired or both. customers are the ultimate winners — when innovation flourishes. That’s why our company has to our investors AT&T Inc.

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taken the lead — reaching out to entrepreneurs, company to philanthropic leadership in areas that will application developers and others outside our make a difference in the communities we serve. company and collaborating with them to bring Our employees volunteer their time and make innovation onto our network faster. Our goal is generous contributions to thousands of community to foster a virtuous cycle of demand, growth projects, and their heroic efforts in the face of natural and further innovation. disasters such as Superstorm Sandy this past year Accelerating the pace of innovation also requires bring to life the very best of our company’s heritage. a willingness to obsolete old technologies so that Of special note, our employees have played a major we can give our customers the best and most role in our signature philanthropic initiative — AT&T advanced solutions. That’s an important part Aspire. Launched in 2008, this project initially of what we’ve committed to do with Project VIP. committed more than $100 million to support By 2020, we expect to have fully transitioned our programs that help high school students succeed customers from decades-old, legacy technologies in school and prepare for careers. In 2012, we to an all-Internet Protocol network architecture. committed an additional $250 million to Aspire This will require us to rethink every aspect of how we over the next five years — to bring new resources operate, but the long-term payoffs are significant to help students who are at risk of dropping out in terms of better service, new capabilities for our of high school. We’ve expanded the mentoring customers and lower costs. program, and we’re driving technology innovations Create a future-focused regulatory model to reach and engage young students. An important key to future investment and I also ask you to join us in another important innovation in our industry is regulation that doesn’t cause. Please help set a good example and remind lock our customers into old technologies. That’s your family and friends to never text while driving. why we continue to work closely with policymakers Let’s change behavior and save lives. as we transition beyond decades-old rules that were designed for point-to-point communications Finally, let me emphasize that our achievements through copper wires and antiquated technology. in these areas and across our business come from the great talent, dedication and hard work To make possible a mobile-centric world of of AT&T’s employees. On their behalf, thank you anywhere-to-everywhere connectivity, it’s critical for your continued confidence and support. that regulations obsolete themselves as old technologies fall away. Customers and the entire Sincerely, industry benefit from regulatory models that don’t struggle to play catch-up with new technologies, but actively pave the way for them.

••• It’s a great privilege to be part of a company Randall Stephenson whose services touch and benefit so many lives. Chairman, Chief Executive Officer and President In keeping with this role, we’ve also committed our February 11, 2013 Always on the move Always in the know

LIVING MOBILE

Demand for the mobile Internet has never been higher. And our ability to deliver a seamless mobile Internet experience has never been greater. LIVING MOBILE AT&T Inc.

7 Staying connected while out and about

••• As the mobile Internet changes the way Meanwhile, Michigan’s Department of Natural businesses operate, AT&T is leading the way. We Resources (DNR) wanted to encourage people to use our knowledge of customers’ businesses to explore the great outdoors. So AT&T app developers deliver customized mobile applications that provide collaborated with the DNR to learn what information anytime, virtually anywhere access to content would be most helpful to Michiganders and visitors and services. And because AT&T provides a highly to the state. AT&T used that input to create the secure managed hosting environment, businesses MI Camping and Recreation Locator app, which get end-to-end solutions that easily integrate with provides mobile access to information on where existing applications, software and databases. to camp, hike or cross-country ski in Michigan. Tens of thousands of outdoor enthusiasts have Consider global commercial real estate giant downloaded the app, and campsite reservations Cushman & Wakefield. AT&T worked with C&W to have gone up substantially. “With AT&T’s help, we’re solve a key challenge: Brokers’ time in the office is using mobile technology to open up Michigan’s time away from clients. So AT&T developed a custom amazing natural resources to even more people,” app — CWmobile — to deliver highly secure mobile says Keith Creagh, DNR director. access to the proprietary data brokers need to assist with a sale or lease. Says Jim Underhill, C&W CEO for the Americas: “CWmobile gives our professionals By the end of 2012, more than 54,000 customers were using AT&T mobile business applications. AT&T and the state of the resources they need to deliver an exceptional Michigan created the MI Camping and Recreation Locator app, client experience that our competitors can’t match.” which gives one-click access to outdoor activities in Michigan. AT&T Inc. LIVING MOBILE

8 Ready to pay? “Put it on my mobile”

••• As consumers increasingly embrace the mobile life, teams across our company are exploring new ways to put smarter applications and seamless connectivity, literally, in the palms of our hands. Jeff Ezell, vice president of consumer product planning and research, AT&T Mobility, talks about the future of mobile payments:

How will AT&T’s concept of mobile payments work?

Jeff “Well, let’s say it’s date night, and on the way to the movie, you stop for a bite at your favorite restaurant. The show starts soon, so you eat quickly. You take the bill to the register and reach for your … smartphone. You open the mobile wallet on your phone, and with a tap you’re paid up and out the door.

“At the theater, you check your mobile wallet to see if there are any promotions. There’s an offer for free popcorn if you buy a drink. You tap your phone again, and now you’ve paid for the drink, gotten your free popcorn and earned loyalty points.” “Today, you’d never go out without your smartphone and your wallet. Soon, you can So how far off is this capability? leave home without your wallet!” Jeff “It’s right around the corner. AT&T is part What’s the potential for AT&T? of a joint venture that’s working to mobilize and transform the way we pay for all kinds of Jeff “It’s a big opportunity. U.S. consumers things. We’re working to obsolete plastic credit spend $4.2 trillion on 1.2 billion cards and cards and coupons and replace them with a redeem 3 billion coupons each year. Isis gives more secure, fully integrated system that’s banks and advertisers a platform to reach personalized, flexible and all mobile. consumers and facilitate these transactions on AT&T’s network and devices. “This venture, Isis, is collaborating with credit card companies, banks and merchants to create “And we see future opportunities to integrate a nationwide mobile payments platform. It’s a mobile payments into connected cars and simple-to-use system that lets you effortlessly digital homes. So someday soon, rather than make payments, discover and redeem offers and digging for change in your glove box, you might earn loyalty points. We have trials under way and simply park at a connected meter and your car are planning to expand nationally. would automatically add two hours to the clock.” LIVING MOBILE AT&T Inc.

9 Connected car Test drive the future

••• Some researchers believe that by 2016 more than half of new vehicles will have factory-installed, wireless connectivity that works with cars’ electronic systems.1 Says Chris Penrose, senior vice president, emerging devices, AT&T Mobility: “Our cars are becoming part of our connected world. AT&T has an exciting opportunity to help keep drivers safe and make driving more enjoyable. We’re working with GM, Ford, Nissan, BMW and other auto manufacturers to lead this trend, and we expect that in the coming years connected cars will drive $1 billion or more in annual revenues for us.” Here’s a glimpse at what could be possible in the future:

Vehicle-to-vehicle communications In-vehicle item monitoring You walk out Your car will “talk” with nearby cars and of your house but forget your smartphone. with the city’s traffic system, making auto No worries. Your car will alert you before travel more efficient. It will even alert you you make it down the driveway. if you’re headed toward an accident and Running late for a help you navigate around it. Traveling office videoconference? Just pull over and Vehicle-to-road communications Your join the meeting right from your car’s car will alert you to hazardous conditions, interactive onboard display. construction, traffic congestion or detours — Wireless and even suggest an alternate route. Rear-seat infotainment connectivity will make “Are we there yet?” Digital home/U-verse integration Your a thing of the past, giving your kids access car’s display screens will give you access to music, games, videos and more. to the Internet, apps and even your home Burned-out tail light? security and automation and U-verse TV Service alerts services, enabling you to do everything Your car will alert you, locate and call the from checking your home security nearest auto parts store … even check cameras to programming your DVR. to see if the bulb is in stock. AT&T Inc. LIVING MOBILE

10 Keeping the crowd in every game

AT&T’s innovative approach to wireless network management helps our customers have a great experience … where they live, work and play. To do that, we’re deploying multiple complementary network technologies — small cells, distributed antenna systems (DAS) and Wi-Fi.

And in late 2012, we accelerated our push to make our wireless network more dense — in a cost-efficient way. Through 2015, we plan to deploy more than 40,000 small cells and more than 1,000 additional distributed antenna systems across our network. This will improve network quality, enhance spectrum efficiency and provide better wireless coverage inside buildings. So more customers can update their social networks, send photos and access their favorite apps … even in high-traffic areas like sports venues and airports.

By design, these solutions are largely seamless and invisible to customers. But for AT&T the results are easy to see. For example, data and voice capacity have more than doubled at sports venues with AT&T DAS — small antennas integrated into the design of an arena or stadium.

Heinz Field, December 23, 2012: An AT&T DAS lets Pittsburgh Steelers fans use their smartphones to check the scores of other games or update their fantasy football rosters … even surrounded by tens of thousands of fellow members of the Steelers Nation. AT&T Inc.

11 Improving the business of improving yours

Open for Business

Making multinational corporations more mobile. Streamlining voice and data needs for a mom-and-pop shop. Business as usual? Hardly. From mobile clouds to custom applications, AT&T is helping businesses of every size be more productive — and connect with more customers. OPEN FOR BUSINESS AT&T Inc.

13 Helping out en la cocina

••• After opening in 1984, Rosa Mexicano Today, Rosa Mexicano uses integrated voice and won acclaim for bringing a fresh twist on Internet services from AT&T, including at locations Mexican cuisine to Manhattan. far from its New York City HQ — all working together for a stable, easily scalable communications But as Rosa Mexicano expanded to nearly platform for all of its restaurants. 1,600 employees at 16 locations in the United States and Central America, handling And the addition of AT&T voice, Web and credit card transactions, managing inventory videoconferencing services helps existing and sharing information with its employees restaurants work more collaboratively while became a challenge. Raymond Fischer, Rosa supporting the planning, construction and launch Mexicano’s vice president of real estate and of new locations. With AT&T’s integrated solution, development, recognized the need to create a Rosa Mexicano’s productivity has improved, and communications infrastructure. the company has reduced communications costs by 40 percent. “I realized that if I could bring some order to the chaos, we could lower operating cost and more “AT&T made it clear that they didn’t want to just sell easily share important information with our us something,” Cory Bronson, vice president of restaurants,” he says. marketing for Rosa Mexicano, says. “They wanted to work with us to make our business more successful. And they have.” AT&T Inc. OPEN FOR BUSINESS

14 The business at hand, always at hand

••• As chief marketing officer for AT&T Business Solutions, Michael Bowling understands what AT&T’s 3.5 million business customers — from multinational corporations to startups — want from us … and the expanding role that mobility and 74% cloud-based solutions play in meeting their needs: Percentage of business applications expected to What trends are you seeing in what business be based in the cloud by 2017 2 customers want? How is AT&T responding?

MICHAEL “Two big trends, from our vantage point, are the rise of mobile-enabled businesses and the shift toward virtualization as more companies adopt $210B the cloud, which lets them access computing and Potential worldwide cloud storage on demand while reducing IT investment. opportunity by 20163 And we’re well positioned in both these areas.

“The two really go together. We’re intensely focused on delivering mobile and cloud solutions that help businesses become more efficient. We embed cloud services in our highly secure, reliable network and combine them with mobility and apps What industries can benefit from AT&T’s services? to deliver ‘the mobile cloud’ — managed end to MICHAEL “We’re integrating mobility and the cloud end across our fixed and mobile networks. So we’re to help transform whole industries like finance, able to deliver the benefits of the cloud — from retail and manufacturing … but I’m especially managing costs by scaling IT capacity up or down excited about the work we’re doing in healthcare. as needed to quickly recovering when disaster Because we believe that technology and smart strikes — but with a difference. networks can help create a healthier world, we “Think about what happens when a company created our AT&T ForHealth practice group. chooses an AT&T cloud solution. With the right “We’re collaborating across the healthcare security measures, employees can access email industry to introduce innovative solutions that and apps on their mobile devices any time, from improve quality of care and reduce costs, from nearly anywhere. The employees are more helping insurers and doctors remotely care for productive … and that company becomes more patients with chronic diseases to providing more competitive while ensuring its data remains secure. secure and efficient access to medical records “And because we actively engage with other solution and images. For example, we will soon roll out a developers and cloud vendors, we’re able to tailor cloud-based service that lets healthcare providers innovative, open solutions that operate seamlessly make virtual ‘house calls’ via a tablet. And that’s across platforms.” just the beginning … it’s an exciting time for AT&T.” OPEN FOR BUSINESS AT&T Inc.

15 Healthy solutions Secure in the cloud

••• Storing the more than 25,000 cardiac images With AT&T’s pay-as-you-go model, HVI pays only it generates each year was a challenge for the for the digital storage space it needs. Highly Henry Ford Heart & Vascular Institute (HVI), secure storage in the cloud gives medical part of Henry Ford Health System in Detroit, Mich. staff access to images without compromising security. And because the solution runs over our Each image is a little “movie” that requires reliable network with images backed up at two highly secure storage. But videotapes and geographically dispersed AT&T data centers, HVI DVDs were costly and took up too much space, knows it can still access important files if its own while large digital files filled hard drives too network is disrupted or a natural disaster hits. quickly. And both were difficult to safeguard when stored off-site. “We presented AT&T with a problem, and they gave us a solution that provides the highly secure storage HVI knew it needed a better solution but capacity we need, while freeing up budget to invest lacked the budget to build the necessary in equipment that directly benefits patients,” says IT infrastructure. Enter AT&T’s cloud-based Kevin Yee, Administrator, Cardiology, Henry Ford medical imaging solution. Health System. Changing how you live, where you live

Home Sweet Hub

Home. Car. Office. The lines between them are blurring. Whether it’s monitoring a home repair contractor from your office or programming your DVR from the bus, making your home life an integral part of your mobile life is just another way we’re transforming how you live. And it’s all made possible thanks to the seamless connectivity our products and services provide. Home Sweet Hub AT&T Inc.

17 Revolutionizing the way we watch

••• In just six years, AT&T U-verseR has become • Use interactive apps to watch TV and discuss a $10 billion annualized revenue stream for us. with your friends whatever’s on in real time, even The reason is simple: Customers love it. And if you’re in different cities. why not? With U-verse you can: But there’s much more to U-verse than great • Surf the Web at home with our all-IP U-verse entertainment and easy-to-use features. When we High Speed Internet service, and go online when bundle U-verse TV and our U-verse High Speed you’re on the road with access to the national Internet with AT&T wireless services, it’s a big win AT&T Wi-Fi Hot Spot network — at no extra charge. for our customers and for us. Our research shows • Watch TV virtually anywhere in your home — that customers with both U-verse broadband and or even in your backyard — with our fully wireless services are more satisfied with AT&T integrated wireless receiver. than customers who don’t bundle services.

• Catch hit TV shows when and where you want — So we’re continuing to invest to seamlessly even on your smartphone or tablet — with integrate our wireless and wired networks and Uverse.com and U-verse apps. service. We’re also planning to expand U-verse to 8.5 million more customer locations by 2015 and • Use your smartphone or tablet as to deploy technology upgrades to make our fast a remote control. U-verse broadband service even faster. AT&T Inc. Home Sweet Hub

18 Never feel far from home

AT&T Digital LifeTM is an all-digital, wireless-based home security and automation solution. “Digital Life is a great service,” says Kevin Petersen, senior vice president, Digital Life, AT&T Mobility. “It lets users control, monitor and secure their homes from a smartphone, tablet or PC. Connected devices in nearly every room automate the home. And homeowners can customize the solution by choosing the features that best fit their needs.”

Wireless cameras 1 let you make sure your kids are studying even if you’re working late. If a package arrives when you’re out, use automated door locks 2 to let the delivery guy in and lock up behind him. Heat wave hits while you’re on vacation? Adjust the thermostat 3 from the Digital Life app on your tablet to save energy. Your home even alerts you if water 4 is near the washing machine or dishwasher, so you can shut off the water main 5 from your smartphone to avoid costly repairs.

We also expect Digital Life will be key to integrated home-based healthcare. For example, more senior citizens might live independently if their families or healthcare professionals could monitor their activities.

We’re launching Digital Life in 2013, with plans to roll it out to more than 50 markets across the United States this year. Because Digital Life is compatible with any broadband connection, customers will be able to use AT&T broadband in our 22-state wired footprint or bring their own broadband nationwide. We also plan to offer a wholesale solution to telecom providers outside the United States. And in the years to come, we expect Digital Life will become a $1+ billion annual revenue stream for AT&T. AT&T Inc.

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2 4

5 We don’t ask if, We ask how

Future First

A steering wheel that keeps drivers on course. A process that turns ideas into prototypes in less than a month. Innovation is accelerating our ability to deliver the future first. Future First AT&T Inc.

21 A better feel for safer driving

••• The 1,300 scientists and engineers for “touch” — technology to communicate at AT&T Labs spend their lives developing navigational cues. Kevin developed a haptics- new technologies to help people live better enhanced steering wheel that vibrates to indicate and businesses perform better. And today’s turns. For example, for a left turn, the steering ubiquitous wireless connectivity gives us more wheel produces a counterclockwise vibration. opportunities to do this than ever before. These vibrations help drivers watch the highway ahead — not their GPS navigation screens. So after AT&T rolled out the “It Can Wait” campaign to discourage distracted driving, AT&T Labs A team of AT&T and Carnegie Mellon University researcher Kevin Li (pictured above right) sought researchers has built a prototype of the steering ways to help drivers overcome the sensory wheel. Early user studies suggest that it can help overload they often experience while on the road. increase the amount of time drivers keep their His goal? Create a safer driving environment and eyes on the road, and our Labs are continuing reduce the potential for life-threatening accidents. to explore using tactile feedback in the steering wheel to convey more than just single directional Kevin realized that while a driver’s senses of cues. We hope that in the years to come haptics sound and sight are often overburdened, the can be one more powerful weapon in the fight sense of touch is largely underutilized while against distracted driving. driving. So he applied haptic — from the Greek AT&T Inc. Future First

22 Clearing a path for innovation

••• With 120 patents to her name, Marian Croak helps lead the innovation push within AT&T. Meanwhile, Abhi Ingle spearheads AT&T’s creation of an innovation “ecosystem.” 145,000+ Together, they’re helping develop creative new AT&T employees participating in TIP solutions to meet our customers’ needs and and generating 500 new ideas each month grow our business:

New products or services How would you describe AT&T’s approach out of AT&T FoundryR to innovation? 29 since its inception Abhi “We’ve planted several seeds that have taken root to transform our approach to innovation — AT&T Foundry® innovation centers; alliances with venture capital firms to hear ‘fast pitches’ from startups with exciting new ideas; and our internal innovation crowdsourcing tool, The Innovation Pipeline (TIP), which lets employees’ ideas move from presentation to prototype in just a few months. Add the world- class research at AT&T Labs, and we have the right mix to drive innovation.

“And we match these great assets within AT&T We engage all those points of view and creative with capabilities outside our walls.” resources, and we pull it all together to accelerate new solutions.” So collaboration is an important part of AT&T’s approach? What’s coming next?

Marian “Absolutely … internally and externally. MARIAN “With initiatives like Fast Pitch, We’re collaborating to develop amazing new AT&T Foundry® and TIP, we now have proven applications and services for our customers. And processes that can help us continue to innovate we’re building cutting-edge tools to make it easy in the tech arena to bring new solutions to our for developers to integrate our technologies into customers. But we’ll apply our innovation their apps.” approach in other areas, too. So we can use TIP to engage our employees to identify new cost- Abhi “We look across the entire ecosystem — saving opportunities in our business. Or challenge whether it’s researchers in AT&T Labs, innovation developers to help us find ways to address the U.S. ® coaches in AT&T Foundry , developers in a education crisis. The best is yet to come.” garage or an employee in an AT&T retail store. Future First AT&T Inc.

23 Fast Pitch in action

••• AT&T is on a mission: Transform how we innovate. And collaboration is the unifying theme of our innovation mindset. By working together — with our colleagues and with innovators outside AT&T — we’re not only developing new solutions … we’re doing it faster than ever. Consider the process we call Fast Pitch: 3x Outside startups AT&T fast tracks The time from idea to launch? present new ideas the most promising As much as 3x faster … to AT&T leadership in concepts and provides or in as little as 12 weeks 12-minute pitches development resources

Self-optimizing network U-verse Video Bill In a Fast Pitch session at AT&T Foundry® In another Fast Pitch session, video in Israel, Intucell pitched an idea for a software startup SundaySky introduced a self-optimizing network (SON), which way to offer customers personalized videos detects wireless network overloads and explaining their bills. Today, we’re providing automatically shifts traffic to cell towers AT&T U-verse customers with a Video Bill for with more capacity. After Intucell pitched the first two months of service and any time the idea for SON, we moved the project they change plans. Feedback is positive — into the AT&T Foundry®. Within a month 85 percent of U-verse customers who have we were testing prototypes. Today we’re used Video Bill tell us it’s helpful — and we’re deploying SON across AT&T’s network. getting fewer billing-related calls. That’s Based on network data, SON helps us a big win. So we’re expanding Video Bill to efficiently manage traffic and improves our wireless customers — a first in the U.S. the customer experience by reducing wireless industry. dropped calls by 10 percent. AT&TAT&T Inc.

2424 The most powerful network of all

WHERE WE CONNECT

Connecting more people in more ways isn’t limited to network improvements and product innovations. Just ask the returning veterans we now call colleagues. Or the teens we discourage from texting behind the wheel. For them, improving the quality of life in the communities we serve is another area where we really excel. WHERE WE CONNECT AT&T Inc.

25 Instilling success in and out of the classroom

••• In 2012, when we committed $250 million and graph students’ scores and share them with in additional funding to AT&T Aspire, our program educators and parents. aimed at helping underserved students graduate from high school ready for college or careers, we AT&T has hosted several more education hackathons, also looked to apply our collaborative innovation and we’re especially excited to see students style to help students succeed. engaging in the process. At a hackathon in Plano, Tex., five local high school students — Ahmed Khan, For example, we engaged the education community Jimmy Zhong, Matthew Laux, Trent Davies and in “hackathons” to create apps to increase student Bilal Ayub (pictured above, left to right) — came success rates. In a hackathon, app developers race up with the winning idea — oculr, a smartphone against the clock to create mobile apps. app for studying math equations.

The first education hackathon attracted more “We’re uncovering great new tools that will help than 200 students, teachers and developers. future generations graduate from high school The winning team tackled an issue one member, prepared for what lies ahead, including careers a teacher, had experienced: The time-consuming at companies like AT&T,” says Beth Shiroishi, process of assessing and tracking reading fluency. vice president, sustainability and philanthropy, They created an app that analyzes reading skills AT&T. “And we’ll continue to further engage the in real time and makes it easy to save, record education community as part of our broader commitment to Aspire.” AT&T Inc. WHERE WE CONNECT

26 Texting takes a back seat

Since 2009, AT&T has led the fight against texting while driving through our “It Can Wait” public awareness campaign. We’re focused on educating the public — especially teens — on the dangers of texting behind the wheel. Our goal? Make texting and driving as unacceptable as drinking and driving.

AT&T took this effort to a whole new level in 2012, challenging all Americans to join our 240,000 employees in making a lifelong commitment to never text while driving. To date, the campaign has inspired more than 1.2 million “No Text on Board” pledges.

We’re also collaborating with wireless device makers and app developers to include preloaded, no-text-and-drive technology solutions on all the devices we offer. And we introduced AT&T DriveMode, an app that, when enabled and a vehicle is moving 25+ miles per hour, automatically sends customizable auto-reply messages to incoming texts.

Now we’re taking “It Can Wait” to schools across the nation so that students can take AT&T’s texting and driving virtual reality simulator for a spin … and experience just how difficult it is to pay attention to the road while texting. “You know it’s a bad idea to text and drive,” says student Kenny Barrientos Parada. “But this is scary — it really brings home the danger.” AT&T Inc.

27 AT&T Inc. WHERE WE CONNECT

28 Heroes wanted

••• After five years with the Army’s 101st Airborne In recent years, we’ve accelerated our efforts to help Division, Derrik Wise was ready to return to civilian veterans find jobs — with AT&T or elsewhere. That life. But first he needed a job. The company at led us to become one of the first 10 corporations the top of his list? AT&T. to join the 100,000 Jobs Mission. As of the end of 2012, more than 50,000 veterans had found “In Afghanistan, I would get AT&T calling cards in jobs through the initiative … well on the way to care packages. That let me talk with my family the goal of 100,000 jobs by 2020. And in 2012, when I needed it the most,” says Derrik. “So when the number of veterans hired by AT&T tripled I got back to the United States and heard AT&T to nearly 1,000. was hiring veterans, I decided I wanted to be part of this company.” Our employees also support the military community. A group dedicated to supporting active duty and “AT&T has a nearly century-long history of veteran employees has more than 5,000 members. supporting active-duty personnel and their And in 2012 nearly 300 employee volunteers with our families, as well as veterans,” says Scott Careers for Vets program provided job placement Smith, senior vice president, human resources and career advice to more than 2,200 veterans. operations, AT&T. “They bring a mix of skills — including leadership, integrity and service to “AT&T’s support and the large military community others — that is a great match for our business.” here reinforce what I already knew,” says Derrik. “This is the place for me.”4 AT&T Inc. Financial Review 2012

Selected Financial and Operating Data 30

Management’s Discussion and Analysis of Financial Condition and Results of Operations 31

Consolidated Financial Statements 59

Notes to Consolidated Financial Statements 64

Report of Management 92

Report of Independent Registered Public Accounting Firm 93

Report of Independent Registered Public Accounting Firm on Internal Control over Financial Reporting 94

Board of Directors 95

Executive Officers 96

AT&T Inc. | 29 Selected Financial and Operating Data Dollars in millions except per share amounts

At December 31 and for the year ended: 2012 2011 2010 2009 2008 Financial Data Operating revenues $127,434 $126,723 $124,280 $122,513 $123,443 Operating expenses $114,437 $117,505 $104,707 $101,513 $125,133 Operating income (loss) $ 12,997 $ 9,218 $ 19,573 $ 21,000 $ (1,690) Interest expense $ 3,444 $ 3,535 $ 2,994 $ 3,368 $ 3,369 Equity in net income of affiliates $ 752 $ 784 $ 762 $ 734 $ 819 Other income (expense) – net $ 134 $ 249 $ 897 $ 152 $ (332) Income tax expense (benefit) $ 2,900 $ 2,532 $ (1,162) $ 6,091 $ (2,210) Net Income (Loss) $ 7,539 $ 4,184 $ 20,179 $ 12,447 $ (2,364) Less: Net Income Attributable to Noncontrolling Interest $ (275) $ (240) $ (315) $ (309) $ (261) Net Income (Loss) Attributable to AT&T $ 7,264 $ 3,944 $ 19,864 $ 12,138 $ (2,625) Earnings (Loss) Per Common Share: Net Income (Loss) Attributable to AT&T $ 1.25 $ 0.66 $ 3.36 $ 2.06 $ (0.44) Earnings (Loss) Per Common Share – Assuming Dilution: Net Income (Loss) Attributable to AT&T $ 1.25 $ 0.66 $ 3.35 $ 2.05 $ (0.44) Total assets1 $272,315 $270,442 $269,473 $268,312 $264,700 Long-term debt $ 66,358 $ 61,300 $ 58,971 $ 64,720 $ 60,872 Total debt $ 69,844 $ 64,753 $ 66,167 $ 72,081 $ 74,990 Construction and capital expenditures $ 19,728 $ 20,272 $ 20,302 $ 17,294 $ 20,290 Dividends declared per common share $ 1.77 $ 1.73 $ 1.69 $ 1.65 $ 1.61 Book value per common share $ 16.61 $ 17.85 $ 18.94 $ 17.28 $ 16.35 Ratio of earnings to fixed charges2 2.93 2.21 4.52 4.42 — Debt ratio 43.0% 38.0% 37.1% 41.4% 43.8% Weighted-average common shares outstanding (000,000) 5,801 5,928 5,913 5,900 5,927 Weighted-average common shares outstanding with dilution (000,000) 5,821 5,950 5,938 5,924 5,958 End of period common shares outstanding (000,000) 5,581 5,927 5,911 5,902 5,893 Operating Data Wireless subscribers (000)3 106,957 103,247 95,536 85,120 77,009 In-region network access lines in service (000) 31,887 36,734 41,883 47,534 53,604 Broadband connections (000)4 16,390 16,427 16,309 15,789 15,077 Number of employees 241,810 256,420 266,590 282,720 302,660 1Prior-period amounts are restated to conform to current-period reporting methodology. 2Earnings were not sufficient to cover fixed charges in 2008. The deficit was $943. 3The number presented represents 100% of AT&T Mobility wireless subscribers. 4Broadband connections include in-region DSL lines, in-region U-verse High Speed Internet access, and satellite broadband.

30 | AT&T Inc. Management’s Discussion and Analysis of Financial Condition and Results of Operations Dollars in millions except per share amounts

For ease of reading, AT&T Inc. is referred to as “we,” “AT&T” or the “Company” throughout this document, and the names of the particular subsidiaries and affiliates providing the services generally have been omitted. AT&T is a holding company whose subsidiaries and affiliates operate in the communications services industry in both the United States and internationally, providing wireless and wireline telecommunications services and equipment. You should read this discussion in conjunction with the consolidated financial statements and accompanying notes. A reference to a “Note” in this section refers to the accompanying Notes to Consolidated Financial Statements. In the tables throughout this section, percentage increases and decreases that are not considered meaningful are denoted with a dash.

RESULTS OF OPERATIONS Consolidated Results Our financial results are summarized in the table below. We then discuss factors affecting our overall results for the past three years. These factors are discussed in more detail in our “Segment Results” section. We also discuss our expected revenue and expense trends for 2013 in the “Operating Environment and Trends of the Business” section.

Percent Change 2012 vs. 2011 vs. 2012 2011 2010 2011 2010 Operating Revenues $127,434 $126,723 $124,280 0.6% 2.0% Operating expenses Cost of services and sales 55,215 54,836 50,257 0.7 9.1 Selling, general and administrative 41,079 41,382 34,986 (0.7) 18.3 Impairment of intangible assets — 2,910 85 — — Depreciation and amortization 18,143 18,377 19,379 (1.3) (5.2) Total Operating Expenses 114,437 117,505 104,707 (2.6) 12.2 Operating Income 12,997 9,218 19,573 41.0 (52.9) Interest expense 3,444 3,535 2,994 (2.6) 18.1 Equity in net income of affiliates 752 784 762 (4.1) 2.9 Other income (expense) – net 134 249 897 (46.2) (72.2) Income from continuing operations before income taxes 10,439 6,716 18,238 55.4 (63.2) Income from continuing operations 7,539 4,184 19,400 80.2 (78.4) Net Income Attributable to AT&T $ 7,264 $ 3,944 $ 19,864 84.2% (80.1)%

Overview Operating revenues increased $711, or 0.6%, in 2012 and Operating income increased $3,779, or 41.0%, in 2012 and $2,443, or 2.0%, in 2011. The increases in 2012 and 2011 are decreased $10,355, or 52.9%, in 2011. Our operating margin primarily due to growth in wireless service and equipment was 10.2% in 2012, compared to 7.3% in 2011 and 15.7% in revenues and higher wireline data revenues from U-verse and 2010. Operating revenues and expenses for 2012 reflect only strategic business services. Growth in the wireless subscriber a partial year’s results for our sold Advertising Solutions base and the increasing percentage of subscribers using segment, as discussed below. Operating income for 2012 smartphones also contributed to the revenue increase in reflects continued growth in wireless service and equipment 2011. These increases were partially offset by continued revenue driven mostly by data revenue growth and increased declines in wireline voice revenues for both years. The sale revenues from AT&T U-verse® (U-verse) services and strategic of our Advertising Solutions segment in May 2012 reduced business services, partially offset by a decline in voice revenues $2,244. revenues and higher wireless handset subsidies and Revenue growth continues to be tempered by declines in commissions. Our 2012 operating income also reflects a our voice revenues. During 2012, total switched access lines noncash charge of $9,994 from actuarial losses related to decreased 13.2%. Customers disconnecting access lines pension and postemployment benefit plans. Operating switched to wireless, Voice over Internet Protocol (VoIP) and income for 2011 and 2010 included actuarial losses of cable offerings for voice and data or terminated service $6,280 and $2,521, respectively. Operating income in 2011 permanently as businesses closed or consumers left residences. also reflected charges of $4,181 related to our decision to While we lose wireline voice revenues, we have the opportunity terminate the acquisition of T-Mobile USA, Inc. (T-Mobile) to increase wireless service and wireline data revenues should and noncash charges of $2,910 related to impairments of customers choose us as their wireless provider, and for directory intangible assets. customers with our U-verse service, as their VoIP provider.

AT&T Inc. | 31 Management’s Discussion and Analysis of Financial Condition and Results of Operations (continued) Dollars in millions except per share amounts

Cost of services and sales expenses increased $379, or Interest expense decreased $91, or 2.6%, in 2012 and 0.7%, in 2012 and $4,579, or 9.1%, in 2011. The increase in increased $541, or 18.1%, in 2011. The decrease in interest 2012 resulted from increased wireline costs attributable to expense for 2012 was primarily due to lower average interest growth in U-verse subscribers, higher wireless handset costs rates and average debt balances, partially offset by a net related to strong smartphone sales and a higher actuarial charge of $176 related to call premiums paid and swap gains loss on benefit plans. These increases were partially offset realized for early debt redemptions and debt exchange fees. by lower traffic compensation costs and other nonemployee- The increase in interest expense for 2011 was primarily due related expenses. The sale of our Advertising Solutions to lower interest capitalized on wireless spectrum that we segment reduced cost of services and sales expenses $787 used to support our Long Term Evolution (LTE) technology, in 2012. partially offset by a decrease in our average debt balances. Excluding the increase of $1,668 related to the actuarial loss, Equity in net income of affiliates decreased $32, or 4.1%, in expense increases in 2011 were primarily due to higher 2012 and increased $22, or 2.9%, in 2011. Decreased equity wireless handset costs from strong smartphone sales, in net income of affiliates in 2012 was due to lower earnings partially offset by lower financing-related costs associated from América Móvil, S.A. de C.V. (América Móvil), and with our pension and postretirement benefits (referred to increased expenses in our mobile payment joint venture with as Pension/OPEB expenses) and other employee-related other wireless carriers, marketed as the Isis Mobile WalletTM expenses. (ISIS). These decreases were partially offset by earnings from Selling, general and administrative expenses decreased YP Holdings LLC (YP Holdings). The 2011 increase was due to $303, or 0.7%, in 2012 and increased $6,396, or 18.3%, in improved results at América Móvil, partially offset by lower 2011. The 2012 expense decrease was primarily due to results from Télefonos de México, S.A. de C.V. (Telmex). $4,181 in 2011 expenses related to the termination of Other income (expense) – net We had other income of the T-Mobile merger, offset by a larger actuarial loss of $134 in 2012, $249 in 2011 and $897 in 2010. Results for $3,454 and higher wireless commissions and administrative 2012 included interest and dividend income of $61, costs. The sale of our Advertising Solutions segment leveraged lease income of $55 and net gains on the sale reduced selling, general and administrative expenses of investments of $74. This income was partially offset by $705 in 2012. $57 of investment impairments. The 2011 expenses increased by $2,091 related to the Other income for 2011 included interest and dividend income actuarial loss, charges associated with the T-Mobile payment, of $73, leveraged lease income of $80 and net gains on the and higher commissions paid on smartphone sales, slightly sale of investments of $97. Results for 2010 included a gain offset by lower severance accruals, Pension/OPEB financing on the exchange of Telmex Internacional, S.A.B. de C.V. costs and other employee-related charges. (Telmex Internacional) shares for América Móvil shares of Impairment of intangible assets In 2011, we recorded $658, interest and dividend income of $71, leveraged lease noncash charges for impairments in our Advertising Solutions income of $66, and net gains on the sale of investments of segment, which consisted of a $2,745 goodwill impairment $197, partially offset by $98 of investment impairments. and a $165 impairment of a trade name. The 2010 Income tax expense increased $368 in 2012 and $3,694 in impairment of $85 was for the impairment of a trade name. 2011. The 2012 increase is primarily due to an increase in Depreciation and amortization expense decreased $234, income before income taxes. The 2011 increase is primarily or 1.3%, in 2012 and $1,002, or 5.2%, in 2011 due to lower due to the goodwill impairment, which was not deductible, amortization of intangibles for customer lists related to and a settlement with the Internal Revenue Service related to acquisitions, offset by increased depreciation associated a restructuring of our wireless operations, which lowered our with ongoing capital spending for network upgrades and 2010 income taxes by $8,300. Offsetting these year-over-year expansion. The sale of our Advertising Solutions segment increases were decreases due to lower income before income reduced depreciation and amortization expense $280 taxes in 2011 and a $995 charge to income tax expense in 2012. in 2010 to reflect the deferred tax impact of enacted U.S. healthcare legislation (see Note 10). Our effective tax rate was 27.8% in 2012, 37.7% in 2011 and (6.4)% in 2010.

32 | AT&T Inc. Income from discontinued operations, net of tax In the managed networking to business customers. Additionally, we third quarter of 2010, we sold our subsidiary Sterling receive commissions on sales of satellite television services Commerce Inc. (Sterling). Income from discontinued offered through our agency arrangements. The Wireline operations in 2010 was $779, including a gain of $769. segment results have been reclassified to exclude the operating results of the home monitoring business moved to Segment Results our Other segment and to include the operating results of Our segments are strategic business units that offer different customer information services, which were previously products and services over various technology platforms and reported in our Other segment’s results. are managed accordingly. Our operating segment results presented in Note 3 and discussed below for each segment The Advertising Solutions segment included our directory follow our internal management reporting. We analyze our operations, which published Yellow and White Pages operating segments based on segment income before income directories and sold directory advertising, Internet-based taxes. We make our capital allocation decisions based on advertising and local search through May 8, 2012 (see Note 4). our strategic direction of the business, needs of the network The Other segment accounted for less than 1% of our (wireless or wireline) providing services and other assets 2012 and 2011 total segment operating revenues. needed to provide emerging services to our customers. Since segment operating expenses exceeded revenue in Actuarial gains and losses from pension and other both years, a segment loss was incurred in both 2012 postemployment benefits, interest expense and other income and 2011. This segment includes our portion of the results (expense) – net, are managed only on a total company basis from our international equity investments, our 47 percent and are, accordingly, reflected only in consolidated results. equity interest in YP Holdings, and costs to support Therefore, these items are not included in each segment’s corporate-driven activities and operations. Also included percentage of our total segment income. Each segment’s in the Other segment are impacts of corporate-wide percentage of total segment operating revenue and income decisions for which the individual operating segments are calculations is derived from our segment results table in not being evaluated. The Other segment results have been Note 3, and may total more than 100 percent due to losses reclassified to exclude the operating results of customer in one or more segments. At December 31, 2012, we had information services, which are now reported in our three reportable segments: (1) Wireless, (2) Wireline and Wireline segment’s results. (3) Other. Our operating results prior to May 9, 2012, also included Advertising Solutions, which was a reportable The following sections discuss our operating results by segment. On May 8, 2012, we completed the sale of our segment. Operations and support expenses include bad debt Advertising Solutions segment and received a 47 percent expense; advertising costs; sales and marketing functions, equity interest in the new entity YP Holdings (see Note 4). including customer service centers; real estate costs, including maintenance and utilities on all buildings; credit The Wireless segment accounted for approximately 52% of and collection functions; and corporate support costs, such our 2012 total segment operating revenues as compared to as finance, legal, human resources and external affairs. 50% in 2011 and 70% of our 2012 total segment income as Pension and postretirement service costs, net of amounts compared to 96% in 2011. This segment uses our nationwide capitalized as part of construction labor, are also included to network to provide consumer and business customers with the extent that they are associated with these employees. wireless voice and advanced data communications services. Our Wireless and Wireline segments also include certain This segment includes our portion of the results from our network planning and engineering expenses, information mobile payment joint venture ISIS, which is accounted for technology, our repair technicians and repair services, and as an equity investment. property taxes as operations and support expenses. The Wireline segment accounted for approximately 47% of We discuss capital expenditures for each segment in our total segment operating revenues in both 2012 and 2011 “Liquidity and Capital Resources.” and 30% of our 2012 total segment income as compared to 44% in 2011. This segment uses our regional, national and global network to provide consumer and business customers with landline voice and data communications services, U-verse high-speed broadband, video, voice services, and

AT&T Inc. | 33 Management’s Discussion and Analysis of Financial Condition and Results of Operations (continued) Dollars in millions except per share amounts

Wireless Segment Results Percent Change 2012 vs. 2011 vs. 2012 2011 2010 2011 2010 Segment operating revenues Service $59,186 $56,726 $53,510 4.3% 6.0% Equipment 7,577 6,489 4,991 16.8 30.0 Total Segment Operating Revenues 66,763 63,215 58,501 5.6 8.1 Segment operating expenses Operations and support 43,296 41,282 36,185 4.9 14.1 Depreciation and amortization 6,873 6,329 6,498 8.6 (2.6) Total Segment Operating Expenses 50,169 47,611 42,683 5.4 11.5 Segment Operating Income 16,594 15,604 15,818 6.3 (1.4) Equity in Net Income (Loss) of Affiliates (62) (29) 9 — — Segment Income $16,532 $15,575 $15,827 6.1% (1.6)%

The following table highlights other key measures of performance for the Wireless segment:

2012 vs. 2011 vs. 2012 2011 2010 2011 2010 Wireless Subscribers (000)1 106,957 103,247 95,536 3.6% 8.1% Gross Subscriber Additions (000)2 20,770 23,869 22,879 (13.0) 4.3 Net Subscriber Additions (000)2 3,764 7,699 8,853 (51.1) (13.0) Total Churn4 1.35% 1.37% 1.31% (2) BP 6 BP Postpaid Subscribers (000) 70,497 69,309 68,041 1.7% 1.9% Net Postpaid Subscriber Additions (000)2 1,438 1,429 2,153 0.6 (33.6) Postpaid Churn4 1.09% 1.18% 1.09% (9) BP 9 BP Prepaid Subscribers (000) 7,328 7,225 6,524 1.4% 10.7% Net Prepaid Subscriber Additions (000)2 128 674 952 (81.0) (29.2) Reseller Subscribers (000) 14,875 13,644 11,645 9.0 17.2 Net Reseller Subscriber Additions (000)2 1,027 1,874 1,140 (45.2) 64.4 Connected Device Subscribers (000)3 14,257 13,069 9,326 9.1 40.1 Net Connected Device Subscriber Additions (000) 1,171 3,722 4,608 (68.5)% (19.2)% 1Represents 100% of AT&T Mobility wireless subscribers. 2Excludes merger and acquisition-related additions during the period. 3Includes data-centric devices such as eReaders, tablets, automobile monitoring systems, and fleet management. 4Calculated by dividing the aggregate number of wireless subscribers who canceled service during a period divided by the total number of wireless subscribers at the beginning of that period. The churn rate for the period is equal to the average of the churn rate for each month of that period.

Wireless Subscriber Relationships from nine manufacturers. As technology evolves, rapid changes As the wireless industry continues to mature, we believe that are occurring in the handset and device industry with the future wireless growth will increasingly depend on our ability continual introduction of new models or significant revisions of to offer innovative services and devices and a wireless existing models. We believe a broad offering of a wide variety network that has sufficient spectrum and capacity to support of smartphones reduces dependence on any single operating these innovations and make them available to more system or manufacturer as these products continue to evolve subscribers. To attract and retain subscribers, we offer a in terms of technology and subscriber appeal. In 2012, we broad handset line and a wide variety of service plans. continued to see an increasing use of smartphones by our postpaid subscribers. Of our total postpaid subscriber base, Our handset offerings include at least 16 smartphones 66.8% (or 47.1 million subscribers) use smartphones, up from (handsets with voice and data capabilities using an advanced 56.8% (or 39.4 million subscribers) a year earlier and 42.7% (or operating system to better manage data and Internet access) 29.1 million subscribers) two years ago. As is common in the

34 | AT&T Inc. industry, most of our subscribers’ phones are designed to continuing to invest significant capital in expanding our work only with our wireless technology, requiring subscribers network capacity, our capacity constraints could affect the who desire to move to a new carrier with a different quality of existing voice and data services and our ability to technology to purchase a new device. From time to time, we launch new, advanced wireless broadband services, unless we offer and have offered attractive handsets on an exclusive are able to obtain more spectrum. Any long-term spectrum basis. As these exclusivity arrangements expire, we expect to solution will require that the Federal Communications continue to offer such handsets (based on historical industry Commission (FCC) make new or existing spectrum available practice), and we believe our service plan offerings will help to the wireless industry to meet the expanding needs of our to retain our subscribers by providing incentives not to subscribers. We will continue to attempt to address spectrum migrate to a different carrier. We do not expect exclusivity and capacity constraints on a market-by-market basis. terminations to have a material impact on our Wireless Wireless Metrics segment income, consolidated operating margin or our cash flows from operations. Subscriber Additions As of December 31, 2012, we served 107 million wireless subscribers, an increase of 3.6% from Our postpaid subscribers typically sign a two-year contract, 2011. We continue to see a declining rate of growth in the which includes discounted handsets and early termination industry’s subscriber base compared to prior years, as fees. As of December 31, 2012, about 90% of our postpaid reflected in a 13.0% decrease in gross subscriber additions smartphone subscribers are on FamilyTalk® plans (family (gross additions) in 2012 after a 4.3% increase in 2011. plans), Mobile Share plans or business discount plans Gross additions in 2012 and 2011 reflected higher activations (discount plans), which provide for service on multiple devices of postpaid smartphones and sales of tablets and other at discounted rates, and such subscribers tend to have higher data-centric devices compared to prior years. retention and lower churn rates. During the first quarter of 2011, we introduced our Mobile to Any Mobile feature, which Lower net subscriber additions (net additions) in 2012 were enables our new and existing subscribers on these and other primarily attributable to lower net connected device and qualifying plans to make unlimited mobile calls to any mobile reseller additions when compared to the prior year, which number in the United States, subject to certain conditions. reflected higher churn rates for customers not using such We also offer data plans at different price levels (usage- devices (zero-revenue customers). Lower net prepaid based data plans) to attract a wide variety of subscribers additions in 2012 reflected a decrease in net prepaid tablet and to differentiate us from our competitors. Our postpaid additions, as the introduction of our Mobile Share plans subscribers on data plans increased 11.4% year over year. has accelerated a shift from prepaid to postpaid tablet A growing percentage of our postpaid smartphone subscribers. A relatively flat rate of growth in net postpaid subscribers are on usage-based data plans, with 67.4% additions in 2012 and decline in 2011 reflected slowing (or 31.7 million subscribers) on these plans as of growth in the industry’s subscriber base. Lower net postpaid December 31, 2012, up from 56.0% (or 22.1 million additions in 2011, compared to 2010, also reflected higher subscribers) as of December 31, 2011, and 31.2% (or postpaid churn attributable in part to integration efforts 9.1 million subscribers) as of December 31, 2010. More than connected to a prior merger. 75% of subscribers on tiered data plans have chosen the Average service revenue per user (ARPU) – Postpaid higher-tiered plans. In August 2012, we launched new increased 1.9% in 2012 and 1.8% in 2011, driven by increases Mobile Share data plans (which allow postpaid subscribers in data services ARPU of 13.9% in 2012 and 15.3% in 2011, to share data at discounted prices among devices covered reflecting greater use of smartphones and data-centric by their plan), and sales results have been strong, with devices by our subscribers. approximately 25% of Mobile Share subscribers choosing plans of 10 gigabytes or higher. Such offerings are intended The growth in postpaid data services ARPU in 2012 and 2011 to encourage existing subscribers to upgrade their current was partially offset by a 5.7% decrease in postpaid voice and services and/or add connected devices, attract subscribers other service ARPU in 2012 and a 5.3% decrease in 2011. from other providers, and minimize subscriber churn. Voice and other service ARPU declined due to lower access and airtime charges, triggered in part by postpaid subscribers As of December 31, 2012, 54.7% of our postpaid smartphone on our discount plans, and lower roaming revenues. subscribers use a 4G-capable device (i.e., a device that would operate on our HSPA+ or LTE network). Due to ARPU – Total declined 1.6% in 2012 and 3.8% in 2011, substantial increases in the demand for wireless service reflecting growth in connected device, tablet and reseller in the United States, AT&T is facing significant spectrum subscribers. Connected devices and other data-centric and capacity constraints on its wireless network in certain devices, such as tablets, have lower-priced data-only plans markets. We expect such constraints to increase and expand compared with our postpaid smartphone plans, which have to additional markets in the coming years. While we are voice and data features. Accordingly, ARPU for these

AT&T Inc. | 35 Management’s Discussion and Analysis of Financial Condition and Results of Operations (continued) Dollars in millions except per share amounts

subscribers is typically lower compared to that generated • Voice and other service revenues decreased $1,466, or from our smartphone subscribers on postpaid and other 4.2%, in 2012 and $608, or 1.7%, in 2011. While the plans. Data services ARPU increased 11.1% in 2012 and 9.8% number of wireless subscribers increased 3.6% in 2012, in 2011, reflecting increased smartphone and data-centric and 8.1% in 2011, these revenues continued to decline device use. We expect continued revenue growth from due to voice access and usage declines, as noted in the data services as more subscribers use smartphones and ARPU and subscriber relationships discussions above. data-centric devices, and as we continue to expand our Equipment revenues increased $1,088, or 16.8%, in 2012 and network. Voice and other service ARPU declined 9.7% in $1,498, or 30.0%, in 2011. The increase in 2012 was primarily 2012 and 10.9% in 2011 due to voice access and usage due to a year-over-year increase in smartphone sales as a trends and a shift toward a greater percentage of data- percentage of total device sales to postpaid subscribers, centric devices. We expect continued pressure on voice partially offset by lower device upgrades. During the first and other service ARPU. quarter of 2012, we introduced an increase in the handset Churn The effective management of subscriber churn is upgrade fee, which also contributed to the year-over-year critical to our ability to maximize revenue growth and to increase in equipment revenues in 2012. The increase in maintain and improve margins. The total and postpaid churn 2011 was primarily due to the launch of a new iPhone rates were down slightly in 2012, reflecting popularity of model, which resulted in even higher iPhone sales and our discount plans. Total and postpaid churn increased in upgrades compared to the 2010 launch. 2011, reflecting integration efforts from a prior merger and Operations and support expenses increased $2,014, or 4.9%, higher connected device churn rates. Reseller subscribers in 2012 and $5,097, or 14.1%, in 2011. The increase in 2012 have traditionally had the lowest churn rate among our was primarily due to the following: wireless subscribers; however, in 2012, the disconnection of zero-revenue customers has caused our total churn • Commission expenses increased $636 due to a year- rate to increase. over-year increase in smartphone sales as a percentage of total device sales, partially offset by the overall Operating Results decline in handset upgrade activity and total device Segment operating income margin was 24.9% in 2012, sales. compared to 24.7% in 2011 and 27.0% in 2010. Our Wireless • Selling expenses (other than commissions) and segment operating income increased $990, or 6.3%, in 2012 administrative expenses increased $532 due primarily and decreased $214, or 1.4%, in 2011. The operating income to a $181 increase in information technology costs in and margin increase in 2012 reflected continuing data conjunction with ongoing support systems development, revenue growth and operating efficiencies, partially offset by $137 increase in employee-related costs, $99 increase the high subsidies associated with growing smartphone sales. in nonemployee-related costs, and $89 increase in bad The margin decrease in 2011 reflected higher equipment and debt expense, partially offset by a $57 decline in selling costs associated with higher smartphone sales and advertising costs. handset upgrades, partially offset by higher data revenues generated by our postpaid subscribers. While we subsidize • Equipment costs increased $501, reflecting sales of the the sales prices of various smartphones, we expect to recover more expensive smartphones, partially offset by the that cost over time from increased usage of the devices, overall decline in upgrade activity and total device sales. especially data usage by the subscriber. • Network system, interconnect, and long-distance costs increased $202 primarily due to higher network traffic, Service revenues are comprised of local voice and data personnel-related network support costs and cell site services, roaming, long distance and other revenue. Service related costs in conjunction with our network revenues increased $2,460, or 4.3%, in 2012 and $3,216, enhancement efforts and storm costs. or 6.0%, in 2011. The increases consisted of the following: • Universal Service Fund (USF) fees increased $166 • Data service revenues increased $3,926, or 17.8%, in primarily due to USF rate increases. A majority of 2012 and $3,824, or 21.0%, in 2011. The increases were USF fees are recovered and reported as revenues. primarily due to the increased number of subscribers • Handset insurance cost increased $141 due to claims using smartphones and data-centric devices, such as on more expensive devices. eReaders, tablets, and mobile navigation devices. Partially offsetting these increases, incollect roaming fees Data service revenues accounted for approximately decreased $115 primarily due to rate declines and lower 43.8% of our wireless service revenues in 2012, roaming use associated with the integration of previously compared to 38.8% in 2011 and 34.0% in 2010. acquired subscribers into our network.

36 | AT&T Inc. The increase in 2011 was primarily due to the following: • Administrative expenses decreased $177 due to lower payroll, legal and operating tax costs, and a • Higher volumes of smartphone sales and handset reclassification of shared information technology costs. upgrades, as well as handsets provided to former Alltel Wireless (Alltel) subscribers, increased equipment costs Depreciation and amortization expenses increased $544, or $2,816 and related commission expenses $1,079. 8.6%, in 2012 and decreased $169, or 2.6%, in 2011. In 2012, • Network system, interconnect, and long-distance costs depreciation expense increased $855, or 15.5%, primarily increased $1,356 due to higher network traffic, higher due to ongoing capital spending for network upgrades and recurring personnel-related network support costs in expansion and the reclassification of shared information conjunction with our network enhancement efforts, technology costs partially offset by certain network assets and higher leasing costs. becoming fully depreciated. Amortization expense decreased • Selling expenses (other than commissions) increased $311, or 38.9%, primarily due to lower amortization of $288 due to higher payroll and benefit costs and a intangibles for customer lists related to acquisitions. $136 increase in bad debt expense, partially offset by Amortization expense decreased $519, or 39.4%, in 2011 lower advertising and costs associated with customer primarily due to lower amortization of intangibles for billing functions. customer lists related to acquisitions. Depreciation expense Partially offsetting these increases in 2011 were the increased $350, or 6.8%, in 2011 primarily due to ongoing following: capital spending for network upgrades and expansion and the reclassification of shared information technology costs • Incollect roaming, handset insurance costs, and USF fees partially offset by certain network assets becoming fully decreased $220 primarily due to lower usage and claims depreciated. on less expensive devices, less the impact of a USF rate increase. A majority of USF fees are recovered and Equity in net income (loss) of affiliates for the Wireless reported as revenues. segment includes expenses for ISIS, our mobile payment joint venture with Verizon and T-Mobile. Wireline Segment Results Percent Change 2012 vs. 2011 vs. 2012 2011 2010 2011 2010 Segment operating revenues Data $31,798 $29,560 $27,512 7.6% 7.4% Voice 22,619 25,126 28,332 (10.0) (11.3) Other 5,150 5,454 5,917 (5.6) (7.8) Total Segment Operating Revenues 59,567 60,140 61,761 (1.0) (2.6) Segment operating expenses Operations and support 41,207 41,360 41,879 (0.4) (1.2) Depreciation and amortization 11,123 11,615 12,372 (4.2) (6.1) Total Segment Operating Expenses 52,330 52,975 54,251 (1.2) (2.4) Segment Operating Income 7,237 7,165 7,510 1.0 (4.6) Equity in Net Income of Affiliates (2) — 11 — — Segment Income $ 7,235 $ 7,165 $ 7,521 1.0% (4.7)%

Operating Results business customers either reduced usage or disconnected Our Wireline segment operating income margin was 12.1% traditional landline services and switched to alternative in 2012, compared to 11.9% in 2011 and 12.2% in 2010. technologies, such as wireless and VoIP. Our strategy is to Our Wireline segment operating income increased $72, or offset these line losses by increasing non-access-line-related 1.0%, in 2012 and decreased $345, or 4.6%, in 2011. revenues from customer connections for data, video and The increases in operating income and margins in 2012 U-verse voice. Additionally, we have the opportunity to reflect increases in data revenue growth and lower increase Wireless segment revenues if customers choose depreciation and amortization expense, partially offset us as their wireless provider. by continued access line declines as our consumer and

AT&T Inc. | 37 Management’s Discussion and Analysis of Financial Condition and Results of Operations (continued) Dollars in millions except per share amounts

Data revenues increased $2,238, or 7.6%, in 2012 and • Long-distance revenues decreased $965, or 11.2%, in $2,048, or 7.4%, in 2011. Data revenues accounted for 2012 and $1,066, or 11.0%, in 2011. Lower demand approximately 53% of wireline operating revenues in 2012, for long-distance service from global businesses and 49% in 2011 and 45% in 2010. Data revenues include IP, consumer customers decreased revenues $799 in 2012 strategic business and traditional data services. and $822 in 2011. Additionally, expected declines in the number of national mass-market customers decreased • IP data revenues (excluding strategic business services revenues $165 in 2012 and $235 in 2011. below) increased $2,023, or 15.0%, in 2012 and $1,863, or 16.0%, in 2011 primarily driven by higher U-verse Other operating revenues decreased $304, or 5.6%, in 2012 penetration. In 2012 and 2011, U-verse video revenues and $463, or 7.8%, in 2011. Major items included in other increased $1,057 and $1,206, broadband high-speed operating revenues are integration services and customer Internet access revenue increased $605 and $365 and premises equipment, government-related services and U-verse voice revenue increased $251 and $286, outsourcing, which account for approximately 60% of total respectively. The increases in IP data revenues reflect other revenue in the years reported. continued growth in the customer base and migration Operations and support expenses decreased $153, or 0.4%, from other traditional circuit-based services. New and in 2012 and $519, or 1.2%, in 2011. Operations and support existing U-verse customers are shifting from traditional expenses consist of costs incurred to provide our products landlines to our U-verse Voice and from DSL to and services, including costs of operating and maintaining our U-verse High Speed Internet access offerings. our networks and personnel costs, such as compensation At December 31, 2012, more residential customers and benefits. subscribed to our U-verse High Speed Internet services than our traditional DSL offering. The 2012 decrease was primarily due to lower employee- • Strategic business services, which include Ethernet, related expense of $470, reflecting ongoing workforce Virtual Private Networks (VPN), Hosting, IP Conferencing reduction initiatives, decreased traffic compensation expense and application services, increased $753, or 13.5%, in of $281 and lower nonemployee-related expense of $172. 2012 and $854, or 18.1%, in 2011. These increases were These decreases were partially offset by increased cost of driven by increased VPN revenues, which contributed sales, primarily related to U-verse related expenses of $538 additional revenues of $431 and $563 and Ethernet and increased USF fees of $254. revenues, which increased by $286 and $218 in 2012 The 2011 decrease was primarily due to lower traffic and 2011. compensation expense of $423, decreased employee-related • Traditional data revenues, which include transport expense of $401, reflecting ongoing workforce reduction (excluding Ethernet) and packet-switched data services, initiatives, lower bad debt expense of $216 due to lower decreased $538, or 5.1%, in 2012 and $669, or 6.0%, revenue from business customers and improvements in cash in 2011. These decreases were primarily due to lower collections, and decreased USF fees of $71. These decreases demand as customers continue to shift to IP-based were partially offset by increased cost of sales, primarily technology such as VPN, U-verse High Speed Internet related to U-verse related expenses of $451 and increased access and managed Internet services. We expect contract services of $217. these traditional services to continue to decline as a percentage of our overall data revenues. Depreciation and amortization expenses decreased $492, or 4.2%, in 2012 and $757, or 6.1%, in 2011. Both decreases revenues decreased $2,507, or 10.0%, in 2012 and Voice were primarily related to lower amortization of intangibles $3,206, or 11.3%, in 2011 primarily due to declining demand for customer lists associated with acquisitions. for traditional voice services by our consumer and business customers. Included in voice revenues are revenues from local voice, long distance (including international) and local wholesale services. Voice revenues do not include VoIP revenues, which are included in data revenues. • Local voice revenues decreased $1,526, or 9.9%, in 2012 and $2,067, or 11.8%, in 2011. The decrease in 2012 and 2011 was driven primarily by a 13.2% and 12.3% decline in switched access lines. We expect our local voice revenue to continue to be negatively affected by competition from alternative technologies and continued declines in switched access lines.

38 | AT&T Inc. Supplemental Information Wireline Broadband, Telephone and Video Connections Summary Our broadband, switched access lines and other services provided by our local exchange telephone subsidiaries at December 31, 2012, 2011, and 2010 are shown below and trends are addressed throughout this segment discussion.

Percent Change 2012 vs. 2011 vs. (in 000s) 2012 2011 2010 2011 2010 Total Wireline Broadband Connections1,2 16,390 16,427 16,309 (0.2)% 0.7% U-verse video 4,536 3,791 2,987 19.7 26.9 Satellite service3 1,600 1,765 1,930 (9.3) (8.5) Video Connections 6,136 5,556 4,917 10.4 13.0 Total Retail Consumer Voice Connections4 18,614 21,232 24,195 (12.3) (12.2) Switched Access Lines Retail consumer 15,709 18,954 22,515 (17.1) (15.8) Retail business5 14,274 15,656 17,053 (8.8) (8.2) Retail Subtotal5 29,983 34,610 39,568 (13.4) (12.5) Wholesale Subtotal5 1,854 2,077 2,252 (10.7) (7.8) Total Switched Access Lines6 31,887 36,734 41,883 (13.2)% (12.3)% 1Total wireline broadband connections include DSL, U-verse High Speed Internet and satellite broadband. 2Includes U-verse High Speed Internet connections of 7,716 at December 31, 2012, 5,223 at December 31, 2011, and 3,278 at December 31, 2010. 3Satellite service includes connections under our agency and resale agreements. 4Includes consumer U-verse VoIP connections of 2,905 at December 31, 2012, 2,278 at December 31, 2011, and 1,680 at December 31, 2010. 5Prior-period amounts restated to conform to current-period reporting methodology. 6Total switched access lines include access lines provided to private payphone service providers of 50 at December 31, 2012, 47 at December 31, 2011, and 63 at December 31, 2010.

Advertising Solutions Segment Results Percent Change 2012 vs. 2011 vs. 2012 2011 2010 2011 2010 Total Segment Operating Revenues $1,049 $ 3,293 $3,935 (68.1)% (16.3)% Segment operating expenses Operations and support 773 2,265 2,584 (65.9) (12.3) Impairment of intangible assets — 2,910 — — — Depreciation and amortization 106 386 497 (72.5) (22.3) Total Segment Operating Expenses 879 5,561 3,081 (84.2) 80.5 Segment Income (Loss) $ 170 $(2,268) $ 854 — —

On May 8, 2012, we completed the sale of our Advertising Solutions segment to an affiliate of Cerberus Capital Management, L.P. Following the sale, we are no longer recording operating results for this segment. We hold a 47 percent interest in the new entity, YP Holdings. Other Segment Results Percent Change 2012 vs. 2011 vs. 2012 2011 2010 2011 2010 Total Segment Operating Revenues $ 55 $ 75 $ 83 (26.7)% (9.6)% Total Segment Operating Expenses 1,065 5,078 2,171 (79.0) — Segment Operating Loss (1,010) (5,003) (2,088) 79.8 — Equity in Net Income of Affiliates 816 813 742 0.4 9.6 Segment Loss $ (194) $(4,190) $(1,346) 95.4% —

AT&T Inc. | 39 Management’s Discussion and Analysis of Financial Condition and Results of Operations (continued) Dollars in millions except per share amounts

The Other segment includes our portion of the results from of growth to be wireless services, especially in sales of and our international equity investments, our 47 percent equity increases in data usage on smartphones and emerging interest in YP Holdings, and costs to support corporate-driven devices (such as tablets, eReaders and mobile navigation activities and operations. Also included in the Other segment devices). We expect that all our major customer categories are impacts of corporate-wide decisions for which the will continue to increase their use of Internet-based individual operating segments are not being evaluated. broadband/data services. We expect continuing declines in traditional access lines and in traditional telephone service Segment operating revenues decreased $20, or 26.7%, in revenues. Where available, our U-verse services have proved 2012 and $8, or 9.6%, in 2011. The decrease was primarily effective in stemming access line losses, and we expect to due to reduced revenues from leased equipment programs. continue to expand our U-verse service offerings in 2013. Segment operating expenses decreased $4,013 79.0%, , or 2013 Expense Trends We expect a stable consolidated in 2012 and increased $2,907 in 2011. The decrease in 2012 operating income margin in 2013 with expanding wireless related to charges incurred in 2011 related to the termination margins being offset by wireline margin pressure as a result of the T-Mobile acquisition. Increased operating expense in of our IP broadband expansion project (see Project VIP in 2011 included $4,432 of charges related to T-Mobile, “Other Business Matters”). Expenses related to growth including $4,181 resulting from our termination of the areas of our business, including wireless data, U-verse, and acquisition, which were partially offset by lower severance strategic business services, will apply some pressure to our charges, reduced Pension/OPEB financing costs and lower operating income margin. employee-related expenses. Market Conditions During 2012, the securities and fixed Our Other segment also includes our equity investments in income markets and the banking system in general continued América Móvil and YP Holdings, the income from which we to stabilize. The ongoing weakness in the general economy report as equity in net income of affiliates. Our earnings from has also affected our customer and supplier bases. We saw foreign affiliates are sensitive to exchange-rate changes in lower demand from our business customers. Some of our the value of the respective local currencies. Our equity in suppliers continue to experience increased financing and net income of affiliates by major investment is listed below: operating costs. These negative economic trends were 2012 2011 2010 partially offset by continued growth in our wireless data and IP-related services. While the economy may have stabilized, América Móvil $686 $720 $560 we do not expect a return to historical growth levels during YP Holdings 130 — — 2013. Should the economy instead deteriorate further, we Telmex1 — 95 150 likely will experience further pressure on pricing and margins Telmex Internacional2 — — 34 as we compete for both wireline and wireless customers who Other — (2) (2) have less discretionary income. We also may experience Other Segment Equity in difficulty purchasing equipment in a timely manner or Net Income of Affiliates $816 $813 $742 maintaining and replacing equipment under warranty from 1Acquired by América Móvil in November 2011. our suppliers. 2Acquired by América Móvil in June 2010. Included on our consolidated balance sheets are assets Equity in net income of affiliates increased $3, or 0.4%, in held by benefit plans for the payment of future benefits. 2012 and $71, or 9.6%, for 2011. Increased equity in net During 2013, we are required to make contributions in income of affiliates in 2012 was due to earnings at the amount of approximately $300 to our pension plans. YP Holdings, offset by lower results at América Móvil. Our pension plans are subject to funding requirements of OPERATING ENVIRONMENT AND TRENDS OF THE BUSINESS the Employee Retirement Income Security Act of 1974, as amended (ERISA). A weakness in the equity, fixed income 2013 Revenue Trends We expect our operating and real asset markets could require us in future years to environment in 2013 to remain challenging as current make contributions to the pension plans in order to maintain economic conditions continue and competition remains minimum funding requirements as established by ERISA. strong. Despite these challenges, we expect our consolidated Investment returns on these assets depend largely on operating revenues in 2013 to grow, reflecting continuing trends in the U.S. securities markets and the U.S. economy. growth in our wireless data and IP-related wireline data In addition, our policy of recognizing actuarial gains and services, including U-verse. We expect our primary driver losses related to our pension and other postretirement plans in the period in which they arise subjects us to earnings volatility caused by changes in market conditions.

40 | AT&T Inc. Changes in our discount rate, which are tied to changes in wireless data services requires the U.S. Government to make the bond market and changes in the performance of equity more spectrum available. In February 2012, Congress markets, may have significant impacts on the fair value of authorized the FCC to conduct an “incentive auction,” to pension and other postretirement plans at the end of 2013 make available for wireless broadband use certain spectrum (see “Accounting Policies and Estimates”). that is currently used by broadcast television licensees. The FCC has initiated a proceeding to establish rules that OPERATING ENVIRONMENT OVERVIEW would govern this process. It also initiated a separate AT&T subsidiaries operating within the United States proceeding to review its policies governing mobile spectrum are subject to federal and state regulatory authorities. holdings and consider whether there should be limits on the AT&T subsidiaries operating outside the United States amount of spectrum a wireless service provider may possess. are subject to the jurisdiction of national and supranational We seek to ensure that we have the opportunity, through regulatory authorities in the markets where service is the incentive auction and otherwise, to obtain the spectrum provided, and regulation is generally limited to operational we need to provide our customers with high-quality service. licensing authority for the provision of services to While wireless communications providers’ prices and service enterprise customers. offerings are generally not subject to state regulation, states sometimes attempt to regulate or legislate various aspects of In the Telecommunications Act of 1996 (Telecom Act), wireless services, such as in the area of consumer protection. Congress established a national policy framework intended to bring the benefits of competition and investment in advanced Expected Growth Areas telecommunications facilities and services to all Americans We expect our wireless services and wireline IP-data products by opening all telecommunications markets to competition to remain the most significant growth portions of our and reducing or eliminating regulatory burdens that harm business and have also discussed trends affecting the consumer welfare. However, since the Telecom Act was segments in which we report results for these products (see passed, the FCC and some state regulatory commissions “Wireless Segment Results” and “Wireline Segment Results”). have maintained or expanded certain regulatory requirements Over the next few years, we expect our growth to come from: that were imposed decades ago on our traditional wireline (1) our wireless service and (2) data/broadband, through subsidiaries when they operated as legal monopolies. existing and new services. We expect that our previous We are pursuing, at both the state and federal levels, acquisitions will enable us to strengthen the reach and additional legislative and regulatory measures to reduce sophistication of our network facilities, increase our large- regulatory burdens that are no longer appropriate in a business customer base and enhance the opportunity to competitive telecommunications market and that inhibit our market wireless services to that customer base. Whether, or ability to compete more effectively and offer services wanted the extent to which, growth in these areas will offset declines and needed by our customers, including initiatives to in other areas of our business is not known. transition services from traditional networks to all IP-based Wireless is our fastest-growing revenue stream networks. At the same time, we also seek to ensure that Wireless and we expect to deliver continued revenue growth in legacy regulations are not extended to broadband or the coming years. We are in a period of rapid growth in wireless services, which are subject to vigorous competition. wireless data usage and believe that there are substantial In addition, states representing a majority of our local service opportunities available for next-generation converged access lines have adopted legislation that enables new video services that combine wireless, broadband, voice and video. entrants to acquire a single statewide or state-approved For example, we are preparing to launch our innovative home franchise (as opposed to the need to acquire hundreds or monitoring service (Digital Life), ISIS and other car-related even thousands of municipal-approved franchises) to offer security and entertainment services. competitive video services. We also are supporting efforts to We cover most major metropolitan areas of the United States update and improve regulatory treatment for retail services. with our Universal Mobile Telecommunications System/ Regulatory reform and passage of legislation is uncertain High-Speed Downlink Packet Access (HSPA) and HSPA+ and depends on many factors. network technology, with HSPA+ providing 4G speeds when We provide wireless services in robustly competitive markets, combined with our upgraded backhaul. At the end of 2012, but those services are subject to substantial and increasing over 90 percent of our data traffic was carried over this governmental regulation. Wireless communications providers enhanced backhaul. Our network provides superior mobile must obtain licenses from the FCC to provide communications broadband speeds for data and video services, as well as services at specified spectrum frequencies within specified operating efficiencies using the same spectrum and geographic areas and must comply with the FCC rules and infrastructure for voice and data on an IP-based platform. policies governing the use of the spectrum. The FCC has Our wireless network also relies on digital transmission recognized that the explosive growth of bandwidth-intensive technologies known as GSM, General Packet Radio Services

AT&T Inc. | 41 Management’s Discussion and Analysis of Financial Condition and Results of Operations (continued) Dollars in millions except per share amounts

and Enhanced Data rates for GSM Evolution (EDGE) for data existing or new right-of-ways to deploy or activate our communications. As of December 31, 2012, we served U-verse-related equipment, services and products, resulting in 107 million subscribers. We have also begun transitioning litigation. Petitions have been filed at the FCC alleging that our network to next generation LTE technology and expect the manner in which we provision “public, educational and this network to cover approximately 300 million people in the governmental” (PEG) programming over our U-verse TV United States and to be largely complete by the end of 2014. service conflicts with federal law, and a lawsuit has been filed We continue to expand the number of locations, including in a California state superior court raising similar allegations airports and cafés, where customers can access broadband under California law. If courts having jurisdiction where we Internet connections using wireless fidelity (local radio have significant deployments of our U-verse services were frequency commonly referred to as Wi-Fi) technology. to decide that federal, state and/or local cable regulation were applicable to our U-verse services, or if the FCC, state As the wireless industry continues to mature, we believe that agencies or the courts were to rule that we must deliver PEG future wireless growth will increasingly depend on our ability programming in a manner substantially different from the to offer innovative data services and a wireless network that way we do today or in ways that are inconsistent with our has sufficient spectrum and capacity to support these current network architecture, it could have a material adverse innovations and make them available to more subscribers. effect on the cost and extent of our U-verse offerings. We are facing significant spectrum and capacity constraints on our wireless network in certain markets. We expect such REGULATORY DEVELOPMENTS constraints to increase and expand to additional markets Set forth below is a summary of the most significant in the coming years. While we are continuing to invest regulatory proceedings that directly affected our operations significant capital in expanding our network capacity, our during 2012. Industry-wide regulatory developments are capacity constraints could affect the quality of existing voice discussed above in Operating Environment Overview. and data services and our ability to launch new, advanced While these issues may apply only to certain subsidiaries, wireless broadband services, unless we are able to obtain the words “we,” “AT&T” and “our” are used to simplify the more spectrum. Any long-term spectrum solution will require discussion. The following discussions are intended as a that the FCC make new or existing spectrum available to condensed summary of the issues rather than as a the wireless industry to meet the expanding needs of our comprehensive legal analysis and description of all of subscribers. We will continue to attempt to address spectrum these specific issues. and capacity constraints on a market-by-market basis. To that end, we signed nearly 50 deals to acquire spectrum during International Regulation Our subsidiaries operating 2012 (some pending regulatory review). Much of the recently outside the United States are subject to the jurisdiction of acquired spectrum came from an innovative solution in which regulatory authorities in the market where service is provided. we obtained FCC approval to use WCS spectrum for mobile Our licensing, compliance and advocacy initiatives in foreign broadband for the first time. countries primarily enable the provision of enterprise (i.e., large-business) services. AT&T is engaged in multiple efforts U-verse Services During 2012, we continued to expand our with foreign regulators to open markets to competition, offerings of U-verse High Speed Internet and TV services. reduce network costs and increase our scope of fully As of December 31, 2012, we are marketing U-verse services authorized network services and products. to approximately 24.5 million customer locations (locations eligible to receive U-verse service). As of December 31, 2012, Federal Regulation A summary of significant 2012 federal we had 8.0 million total U-verse subscribers (high-speed regulatory developments follows. Internet and video), including 7.7 million Internet and In October 4.5 million video subscribers (subscribers to both services Intercarrier Compensation/Universal Service 2011, the FCC adopted an order fundamentally overhauling are only counted once in the total). As part of Project VIP its high-cost universal service program, through which it (see “Other Business Matters”), we plan to expand our disburses approximately $4,500 per year to carriers providing U-verse services to approximately 8.5 million additional telephone service in high-cost areas, and its existing customer locations. intercarrier compensation (ICC) rules, which govern payments We believe that our U-verse TV service is a “video service” between carriers for the exchange of traffic. The order adopts under the Federal Communications Act. However, some cable rules to address immediately certain practices that artificially providers and municipalities have claimed that certain IP increase ICC payments, as well as other practices to avoid services should be treated as a traditional cable service and such payments. The order also establishes a new ICC regime therefore subject to the applicable state and local cable that will result in the elimination of virtually all terminating regulation. Certain municipalities have delayed our requests switched access charges and reciprocal compensation to offer this service or have refused us permission to use our payments over a six-year transition. In the order, the FCC

42 | AT&T Inc. also repurposed its high-cost universal service program who offer voice, text messaging and other services as to encourage providers to deploy broadband facilities in applications on data networks. More than 97 percent of the unserved areas. To accomplish this goal, the FCC will U.S. population lives in areas with at least three mobile transition support amounts disbursed through its existing telephone operators, and 90 percent of the population lives high-cost program to its new Connect America Fund, which in areas with at least five competing carriers. eventually will award targeted high-cost support amounts to The FCC may develop rules to auction or otherwise make providers through a competitive process. We support many available additional spectrum to the wireless industry. aspects of the order and new rules. AT&T and other parties The FCC has indicated it plans to conduct an auction in have filed appeals of the FCC’s rules, which are pending in 2014 under which up to 120 MHz of UHF TV spectrum could the Tenth Circuit Court of Appeals. Our appeal challenges be reallocated for mobile wireless use. In addition, the FCC only certain, narrow aspects of the order; AT&T intervened is required by law to auction up to 65 MHz of additional in support of the broad framework adopted by the order. wireless spectrum in 2015. The FCC has yet to develop the We do not expect the FCC’s rules to have a material impact rules under which this spectrum might be available. We may on our operating results. experience significant competition from companies that Transition to IP-Based Network In conjunction with provide similar services using other communications Project VIP (see “Other Business Matters”), AT&T filed a technologies and services. While some of these technologies petition with the FCC asking it to open a proceeding to and services are now operational, others are being developed facilitate the “telephone” industry’s transition from traditional or may be developed. We compete for customers based transmission platforms and services to all IP-based networks principally on service/device offerings, price, call quality, and services. Our petition asks the FCC to conduct trial runs coverage area and customer service. of the transition to next-generation services, including Wireline the upgrading of traditional telephone facilities and offerings and their replacement with IP-based alternatives. Our wireline subsidiaries expect continued competitive The objective of the trials is to inform policymakers and pressure in 2013 from multiple providers, including wireless, other stakeholders regarding the technological and policy cable and other VoIP providers, interexchange carriers and dimensions of the IP transition and, in the process, identify resellers. In addition, economic pressures are forcing the regulatory reforms needed to promote consumer interests customers to terminate their traditional local wireline service and preserve private incentives to upgrade America’s and use competitive wireless and Internet-based services, broadband infrastructure. We expect to transition customers intensifying a pre-existing trend toward wireless and Internet to an all IP-based network by 2020. use. In most markets, we compete, often on pricing of bundled services, with large cable companies, such as COMPETITION Comcast Corporation, Cox Communications Inc. and Time Warner Cable Inc., for local, high-speed Internet, video Competition continues to increase for telecommunications and voice services customers and other smaller and information services. Technological advances have telecommunications companies for both long-distance expanded the types and uses of services and products and local services customers. available. In addition, lack of or a reduced level of regulation of comparable alternatives (e.g., cable, wireless and VoIP Our wireline subsidiaries generally remain subject to providers) has lowered costs for these alternative regulation for wholesale services by state regulatory communications service providers. As a result, we face commissions for intrastate services and by the FCC for heightened competition as well as some new opportunities interstate services. Under the Telecom Act, companies in significant portions of our business. seeking to interconnect to our wireline subsidiaries’ networks and exchange local calls enter into interconnection Wireless agreements with us. Any unresolved issues in negotiating We face substantial and increasing competition in all aspects those agreements are subject to arbitration before the of our wireless business. Under current FCC rules, multiple appropriate state commission. These agreements (whether licensees, including six or more PCS licensees, two cellular fully agreed-upon or arbitrated) are then subject to review licensees and one or more enhanced specialized mobile radio and approval by the appropriate state commission. licensee may operate in each of our service areas, which results in the potential presence of multiple competitors. Our wireline subsidiaries operate under state-specific forms Our competitors include companies such as Verizon Wireless, of regulation for retail services that were either legislatively Sprint Nextel Corp., T-Mobile, Metro PCS and Cricket, a larger enacted or authorized by the appropriate state regulatory number of regional providers of cellular, PCS and other commission. Most states deregulate the competitive services; wireless communications services and resellers of those impose price caps for some services where the prices for services. In addition, we face competition from providers these services are not tied to the cost of providing the

AT&T Inc. | 43 Management’s Discussion and Analysis of Financial Condition and Results of Operations (continued) Dollars in millions except per share amounts

services or to rate-of-return requirements; or adopt a taking into account current collection trends as well as regulatory framework that incorporates deregulation and general economic factors, including bankruptcy rates. price caps. Some states may impose minimum customer Credit risks are assessed based on historical write-offs, service standards with required payments if we fail to meet net of recoveries, and an analysis of the aged accounts the standards. receivable balances with reserves generally increasing as the receivable ages. Accounts receivable may be fully We continue to lose access lines due to competitors reserved for when specific collection issues are known (e.g., wireless, cable and VoIP providers) who can provide to exist, such as pending bankruptcy or catastrophes. comparable services at lower prices because they are not The analysis of receivables is performed monthly, and subject to traditional telephone industry regulation (or the the allowances for doubtful accounts are adjusted through extent of regulation is in dispute), utilize different technologies, expense accordingly. A 10% change in the amounts or promote a different business model (such as advertising estimated to be uncollectible would result in a change based) and consequently have lower cost structures. in the provision for uncollectible accounts of In response to these competitive pressures, for several years approximately $112. we have utilized a bundling strategy that rewards customers who consolidate their services (e.g., long-distance telephone, Pension and Postretirement Benefits Our actuarial high-speed Internet, wireless and video) with us. We continue estimates of retiree benefit expense and the associated to focus on bundling wireline and wireless services, including significant weighted-average assumptions are discussed combined packages of minutes and video service through our in Note 11. Our assumed discount rate of 4.30% at U-verse service and our relationships with satellite television December 31, 2012, reflects the hypothetical rate at which providers. We will continue to develop innovative products the projected benefit obligations could be effectively that capitalize on our IP-based network (e.g., see Project VIP settled or paid out to participants. We determined our in “Other Business Matters”). discount rate based on a range of factors, including a yield curve composed of the rates of return on several hundred Additionally, we provide local, domestic intrastate and high-quality, fixed income corporate bonds available at the interstate, international wholesale networking capacity, and measurement date and the related expected duration for switched services to other service providers, primarily large the obligations. These bonds were all rated at least Aa3 or Internet Service Providers using the largest class of AA- by one of the nationally recognized statistical rating nationwide Internet networks (Internet backbone), wireless organizations, denominated in U.S. dollars, and neither carriers, Competitive Local Exchange Carriers, regional phone callable, convertible nor index linked. For the year ended Incumbent Local Exchange Carriers, cable companies and December 31, 2012, we decreased our discount rate by systems integrators. These services are subject to additional 1.00%, resulting in an increase in our pension plan benefit competitive pressures from the development of new obligation of $7,030 and an increase in our postretirement technologies and the increased availability of domestic and benefit obligation of $4,546. For the year ended international transmission capacity. The introduction of new December 31, 2011, we decreased our discount rate products and service offerings and increasing satellite, by 0.50%, resulting in an increase in our pension plan wireless, fiber-optic and cable transmission capacity for benefit obligation of $3,384 and an increase in our services similar to those provided by us continues to provide postretirement benefit obligation of $2,114. competitive pressures. We face a number of international competitors, including Orange Business Services, British Our expected long-term rate of return on plan Telecom, SingTel and Verizon Communications Inc., as well assets assumption was 8.25% for the year ended as competition from a number of large systems integrators, December 31, 2012. In 2013, due to the continued such as HP Enterprise Services. uncertainty in the securities markets, the U.S. economy and the plans’ asset mix, we have lowered our expected ACCOUNTING POLICIES AND STANDARDS long-term rate of return on plan assets to 7.75%. Our Critical Accounting Policies and Estimates Because of the expected return on plan assets is calculated using the size of the financial statement line items they relate to or the actual fair value of plan assets. If all other factors were extent of judgment required by our management, some of to remain unchanged, we expect that a 0.50% decrease our accounting policies and estimates have a more significant in the actual long-term rate of return would cause 2013 impact on our financial statements than others. The following combined pension and postretirement cost to increase policies are presented in the order in which the topics appear $260, which under our accounting policy would be in our consolidated statements of income. recognized in the current year as part of our fourth- quarter remeasurement of our retiree benefit plans. Allowance for Doubtful Accounts We maintain an allowance for doubtful accounts for estimated losses that We recognize actual gains and losses on pension and result from the failure of our customers to make required postretirement plan assets immediately in our operating payments. When determining the allowance, we consider results. These gains and losses are generally measured the probability of recoverability based on past experience, annually as of December 31 and accordingly will normally

44 | AT&T Inc. be recorded during the fourth quarter, unless an earlier new reporting unit based on the relative fair value of the remeasurement is required. Should actual experience portion of the business moved and the portion of the differ from actuarial assumptions, the projected pension business remaining in the reporting unit. The goodwill benefit obligation and net pension cost and accumulated impairment test is a two-step process. The first step postretirement benefit obligation and postretirement involves determining the fair value of the reporting unit benefit cost would be affected in future years. Note 11 and comparing that measurement to the book value. also discusses the effects of certain changes in If the fair value exceeds the book value, then no further assumptions related to medical trend rates on retiree testing is required. If the fair value is less than the book healthcare costs. value (i.e., an indication of impairment exists), then we perform the second step. Depreciation Our depreciation of assets, including use of composite group depreciation and estimates of useful In the second step, we determine the fair values of all of lives, is described in Notes 1 and 5. We assign useful the assets and liabilities of the reporting unit, including lives based on periodic studies of actual asset lives. those that may not be currently recorded. The difference Changes in those lives with significant impact on the between the sum of all of those fair values and the overall financial statements must be disclosed, but no such reporting unit’s fair value is a new implied goodwill changes have occurred in the three years ended amount, which we compare to the recorded goodwill. December 31, 2012. However, if all other factors were If implied goodwill is less than the recorded goodwill, to remain unchanged, we expect that a one-year then we record an impairment of the recorded goodwill. increase in the useful lives of our plant in service The amount of this impairment may be more or less than would result in a decrease of approximately $2,479 the difference between the overall fair value and book in our 2012 depreciation expense and that a one-year value of the reporting unit. It may even be zero if the fair decrease would result in an increase of approximately values of other assets are less than their book values. $3,648 in our 2012 depreciation expense. As shown in Note 6, all of our goodwill resides in the Asset Valuations and Impairments We account for Wireless and Wireline segments. For each of those acquisitions completed after 2008 using the acquisition segments, we assess their fair value using an income method. We allocate the purchase price to the assets approach (also known as a discounted cash flow) and a acquired and liabilities assumed based on their estimated market multiple approach. The income approach utilizes fair values. The estimated fair values of intangible assets a 10-year cash flow projection with a perpetuity value acquired are based on the expected discounted cash discounted using an appropriate Weighted Average Cost flows of the identified customer relationships, patents, of Capital (WACC) rate for each reporting unit. The market trade names and FCC licenses. In determining the future multiple approach uses a multiple of a company’s cash flows, we consider demand, competition and other Earnings Before Interest, Taxes, and Depreciation and economic factors. Amortization expenses (EBITDA). We determined the multiples of the publicly traded companies whose Customer relationships, which are finite-lived intangible services are comparable to those offered by the segment assets, are primarily amortized using the sum-of-the- and then calculated a weighted-average of those months-digits method of amortization over the period in multiples. Using those weighted averages, we then which those relationships are expected to contribute to calculated fair values for each of those segments. In our future cash flows. The sum-of-the-months-digits 2012, the calculated fair value of the reporting unit method is a process of allocation and reflects our belief exceeded book value in all circumstances and no that we expect greater revenue generation from these additional testing was necessary. In the event of a 10% customer relationships during the earlier periods after drop in the fair values of the reporting units, the fair acquisition. Amortization of other intangibles, including values would have still exceeded the book values of the patents and certain trade names, is determined using the reporting units and additional testing would still have straight-line method of amortization over the expected not been necessary. As a result of our 2011 impairment remaining useful lives. test, we recorded a goodwill impairment charge in the Goodwill, wireless FCC licenses, and other trade names Advertising Solutions segment due to declines in the are not amortized but tested annually for impairment. value of our directory business and that industry (see We conduct our impairment tests as of October 1. Note 6). We also recorded a corresponding impairment We test goodwill on a reporting unit basis, and our to an indefinite-lived trade name used by the former reporting units coincide with our segments, except for Advertising Solutions segment. certain operations in our Other segment. If, due to Wireless FCC licenses are tested for impairment on an changes in how we manage the business, we move a aggregate basis, consistent with the management of the portion of a reporting unit to another reporting unit, we business on a national scope. As in prior years, we determine the amount of goodwill to reallocate to the performed our test of the fair values of FCC licenses

AT&T Inc. | 45 Management’s Discussion and Analysis of Financial Condition and Results of Operations (continued) Dollars in millions except per share amounts

using a discounted cash flow model (the Greenfield We review customer relationships and other long-lived Approach). The Greenfield Approach assumes a company assets for impairment whenever events or circumstances initially owns only the wireless FCC licenses, and then indicate that the carrying amount may not be recoverable makes investments required to build an operation over the remaining life of the asset or asset group. comparable to the one that currently utilizes the licenses. To determine that the asset is recoverable, we verify that We utilized a 17-year discrete period to isolate cash the expected undiscounted future cash flows directly flows attributable to the licenses, including modeling related to that asset exceed its book value. the hypothetical build-out. The projected cash flows are We evaluate our investments to determine whether based on certain financial factors, including revenue market declines are temporary and accordingly reflected growth rates, EBITDA margins and churn rates. in accumulated other comprehensive income, or other- For impairment testing purposes, we assumed wireless than-temporary and recorded as an expense in other revenue growth to trend down from our 2012 growth rate income (expense) in the consolidated income statements. of 5.6% to a long-term growth rate that reflects expected This evaluation is based on the length of time and the long-term inflation trends. We assumed our churn rates severity of decline in the investment’s value. In 2011 and will decline in 2013 from our rate of 1.35% in 2012, in 2010, we identified an other-than-temporary decline in line with expected trends in the industry but at a rate the value of immaterial equity method investments and comparable with industry-leading churn. EBITDA margins various cost investments. were assumed to continue to trend at least 40%. Income Taxes Our estimates of income taxes and This model then incorporates cash flow assumptions the significant items giving rise to the deferred assets regarding investment in the network, development of and liabilities are shown in Note 10 and reflect our distribution channels and the subscriber base, and other assessment of actual future taxes to be paid on items inputs for making the business operational. We based the reflected in the financial statements, giving consideration assumptions, which underlie the development of the to both timing and probability of these estimates. network, subscriber base and other critical inputs of the Actual income taxes could vary from these estimates due discounted cash flow model, on a combination of average to future changes in income tax law or the final review of marketplace participant data and our historical results, our tax returns by federal, state or foreign tax authorities. trends and business plans. We also used operating metrics such as capital investment per subscriber, We use our judgment to determine whether it is more acquisition costs per subscriber, minutes of use per likely than not that we will sustain positions that we have subscriber, etc., to develop the projected cash flows. taken on tax returns and, if so, the amount of benefit Since we included the cash flows associated with these to initially recognize within our financial statements. other inputs in the annual cash flow projections, the We regularly review our uncertain tax positions and adjust present value of the unlevered free cash flows of the our unrecognized tax benefits (UTBs) in light of changes segment, after investment in the network, subscribers, in facts and circumstances, such as changes in tax law, etc., is attributable to the wireless FCC licenses. interactions with taxing authorities and developments in The terminal value of the segment, which incorporates case law. These adjustments to our UTBs may affect our an assumed sustainable growth rate, is also discounted income tax expense. Settlement of uncertain tax positions and is likewise attributed to the licenses. We used a may require use of our cash. discount rate of 9%, based on the optimal long-term capital structure of a market participant and its associated OTHER BUSINESS MATTERS cost of debt and equity, to calculate the present value Retiree Phone Concession Litigation In May 2005, we were of the projected cash flows. This discount rate is also served with a purported class action in U.S. District Court, consistent with rates we use to calculate the present Western District of Texas (Stoffels v. SBC Communications Inc.), value of the projected cash flows of licenses acquired in which the plaintiffs, who are retirees of Pacific Bell Telephone from third parties. Company, Southwestern Bell and Ameritech, contended that the cash reimbursement formerly paid to retirees living outside If either the projected rate of long-term growth of cash their company’s local service area, for telephone service they flows or revenues declined by 1%, or if the discount rate purchased from another provider, was a “defined benefit plan” increased by 1%, the fair values of the wireless FCC within the meaning of ERISA. In January 2011, the trial court licenses, while less than currently projected, would still be entered a final judgment in our favor. Plaintiffs appealed the higher than the book value of the licenses. The fair value of judgment to the Fifth Circuit Court of Appeals and in April the licenses exceeded the book value by more than 25%. 2012, the Fifth Circuit affirmed the lower court’s judgment in our favor dismissing the case. In July 2012, Plaintiffs filed a petition for a writ of certiorari in the U.S. Supreme Court, which was denied in October 2012, thereby ending the litigation.

46 | AT&T Inc. NSA Litigation Twenty-four lawsuits were filed alleging that Fees on certain services not subject to such fees, including we and other telecommunications carriers unlawfully Internet access service provided over wireless handsets provided assistance to the National Security Agency in commonly called “smartphones” and wireless data cards, as connection with intelligence activities that were initiated well as collecting certain other state and local fees. Plaintiffs following the events of September 11, 2001. In the first filed define the class as all persons who from April 1, 2003, until case, Hepting et al v. AT&T Corp., AT&T Inc. and Does 1-20, the present had a contractual relationship with us for a purported class action filed in U.S. District Court in the Internet access through a smartphone or a wireless data Northern District of California, plaintiffs alleged that the card. Plaintiffs seek an unspecified amount of damages as defendants disclosed and are currently disclosing to the well as injunctive relief. In October 2012, the Circuit Court in U.S. Government content and call records concerning St. Louis, Missouri, to which the case had been transferred, communications to which Plaintiffs were a party. Plaintiffs granted preliminary approval to a settlement in which we sought damages, a declaratory judgment and injunctive relief receive a complete release of claims from members of the for violations of the First and Fourth Amendments to the settlement class. Under the settlement, our liability to the U.S. Constitution, the Foreign Intelligence Surveillance Act class and its counsel is capped at approximately $150, the (FISA), the Electronic Communications Privacy Act and other amount that was collected from customers but not owed or federal and California statutes. We and the United States remitted to the government. The court has scheduled a final filed motions to dismiss the complaint. The court denied fairness hearing in February 2013, at which time the Court the motions, and we and the United States appealed. will consider, among other things, whether the settlement In August 2008, the U.S. Court of Appeals for the should be finally approved. Ninth Circuit remanded the case to the district court Wage and Hour Litigation Two wage and hour cases were without deciding the issue in light of the passage of the filed in federal court in December 2009 each asserting claims FISA Amendments Act, a provision of which addresses the under the Fair Labor Standards Act (Luque et al. v. AT&T Corp. allegations in these pending lawsuits (immunity provision). et al., U.S. District Court in the Northern District of California) The immunity provision requires the pending lawsuits to (Lawson et al. v. BellSouth Telecommunications, Inc., U.S. be dismissed if the Attorney General certifies to the court District Court in the Northern District of Georgia). Luque also either that the alleged assistance was undertaken by alleges violations of a California wage and hour law, which court order, certification, directive or written request or varies from the federal law. In each case, plaintiffs allege that that the telecom entity did not provide the alleged certain groups of wireline supervisory managers were entitled assistance. In September 2008, the Attorney General filed to paid overtime and seek class action status as well as his certification and asked the district court to dismiss all of damages, attorneys’ fees and/or penalties. Plaintiffs have been the lawsuits pending against the AT&T Inc. telecommunications granted conditional collective action status for their federal companies. The court granted the Government’s motion to claims and also are expected to seek class action status for dismiss and entered final judgments in July 2009. In addition, their state law claims. We have contested the collective and a lawsuit seeking to enjoin the immunity provision’s application class action treatment of the claims, the merits of the claims on grounds that it is unconstitutional was filed. In March 2009, and the method of calculating damages for the claims. A jury we and the Government filed motions to dismiss this lawsuit. verdict was entered in favor of the Company in October 2011 The court granted the motion to dismiss and entered final in the U.S. District Court in Connecticut on similar FLSA claims. judgment in July 2009. All cases brought against the AT&T In April 2012, we settled these cases, subject to court entities have been dismissed. In August 2009, plaintiffs in all approval, on terms that will not have a material effect on cases filed an appeal with the Ninth Circuit Court of Appeals. our financial statements. In October 2012, the court granted In December 2011, the Ninth Circuit Court of Appeals affirmed preliminary approval of the settlement in Luque, and the final the dismissals in all cases. In March 2012, the Plaintiffs in all approval hearing is scheduled for April 5, 2013. The parties but three cases filed a petition for writ of certiorari with the anticipate filing the Motion for Preliminary Approval in U.S. Supreme Court. The plaintiffs in two of the three cases filed Lawson in the first quarter of 2013. petitions for rehearing with the Ninth Circuit Court of Appeals, both of which were denied. The plaintiffs in the third case did Project VIP In November 2012, we announced plans to not file a petition in either court. In October 2012, the U.S. significantly expand and enhance our wireless and wireline Supreme Court denied the remaining plaintiffs’ petition, thereby broadband networks to support future IP data growth and ending the litigation. new services. As part of Project Velocity IP (VIP), we plan to expand our deployment of LTE wireless technology and Universal Service Fees Litigation In October 2010, our deploy additional technology to further improve wireless wireless subsidiary was served with a purported class action spectrum efficiencies. To that end, we expect to cover at in Circuit Court, Cole County, Missouri (MBA Surety Agency, least 250 million people in the United States by year-end Inc. v. AT&T Mobility, LLC), in which the plaintiffs contend that 2013 and approximately 300 million people in the we violated the FCC’s rules by collecting Universal Service United States by the end of 2014. In addition, we plan to

AT&T Inc. | 47 Management’s Discussion and Analysis of Financial Condition and Results of Operations (continued) Dollars in millions except per share amounts

expand our wireline IP broadband network to additional working terms for these mobility employees are structured residential and small-business customer locations to cover on a regional basis and one regional contract for 20,000 approximately 75 percent of all such customer locations employees expired during February 2013. Contracts in our 22-state wireline service area by year-end 2015. covering approximately 30,000 non-mobility employees This project is intended to support new revenue opportunities will expire during 2013, including approximately 20,000 in four key areas: wireless, strategic network services, wireline employees in our five-state Southwest region. network managed (“cloud”) services and security as well On February 6, 2013, we announced a tentative agreement as continued growth in existing wireless, U-verse and with the CWA covering the wireline employees in our IP-related business services. We expect capital expenditures Southwest region; this agreement is subject to ratification in the $21,000 range for 2013, and 2014 and 2015 to by these employees. After expiration of the current each be approximately $22,000, and then decrease to agreements, work stoppages or labor disruptions may pre-Project VIP levels. occur in the absence of new contracts or other agreements being reached. Atlantic Tele-Network, Inc. Transaction On January 22, 2013, we announced an agreement to acquire Atlantic Tele- Environmental We are subject from time to time to judicial Network, Inc.’s (ATNI) U.S. retail wireless operations, operated and administrative proceedings brought by various under the Alltel brand, for $780 in cash. Under the terms of governmental authorities under federal, state or local the agreement, we will acquire wireless properties, including environmental laws. We reference in our Forms 10-Q and licenses, network assets, retail stores and approximately 10-K certain environmental proceedings that could result in 585,000 subscribers. The transaction is subject to review monetary sanctions (exclusive of interest and costs) of one by the FCC and the Department of Justice (DOJ) and to hundred thousand dollars or more. However, we do not other customary closing conditions and is expected to close believe that any of those currently pending will have a in the second half of 2013. material adverse effect on our results of operations.

Spectrum Acquisitions On January 24, 2013, we acquired LIQUIDITY AND CAPITAL RESOURCES NextWave Wireless Inc. (NextWave), which holds wireless We had $4,868 in cash and cash equivalents available at licenses in the Wireless Communication Services (WCS) December 31, 2012. Cash and cash equivalents included cash and Advanced Wireless Service (AWS) bands. We acquired of $482 and money market funds and other cash equivalents all the equity and purchased a portion of the debt of of $4,386. Cash and cash equivalents increased $1,823 since NextWave for $600. Certain of NextWave’s assets were December 31, 2011. During 2012, cash inflows were primarily distributed to the holders of its debt in redemption of the provided by cash receipts from operations, a net increase in remainder of that debt. During January 2013, we have also our long-term debt and cash received from the sale of our closed approximately $400 of other wireless spectrum Advertising Solutions segment. These inflows were largely acquisitions from various companies. offset by cash used to meet the needs of the business, On January 25, 2013, we announced an agreement to including but not limited to, payment of operating expenses, acquire spectrum in the 700 MHz B band from Verizon funding capital expenditures, dividends to stockholders, stock Wireless for $1,900 in cash and an assignment of AWS repurchases and the acquisition of wireless spectrum. spectrum licenses in five markets. The 700 MHz licenses to We discuss many of these factors in detail below. be acquired by AT&T cover 42 million people in 18 states. Cash Provided by or Used in Operating Activities The transaction is subject to review by the FCC and DOJ. We expect to close the transaction in the second half of 2013. During 2012, cash provided by operating activities was $39,176, compared to $34,743 in 2011. Higher operating Labor Contracts As of January 31, 2013, we employed cash flows in 2012 are due to non-recurring payments made approximately 242,000 persons. Approximately 55 percent in the prior year, including a $3,000 merger breakup fee to of our employees are represented by the Communications Deutsche Telekom AG (Deutsche Telekom) and a contribution Workers of America (CWA), the International Brotherhood to our pension plan of $1,000, as well as improvements in of Electrical Workers or other unions. Contracts covering inventory and working capital management during 2012. approximately 77,000 (as of December 31, 2012) employees expired during 2012 and we have reached new contracts During 2011, cash provided by operating activities was covering approximately 57,000 of those employees. $34,743 compared to $35,222 in 2010. Our lower operating Contracts covering wireline employees in California, cash flows reflected the payment of $3,000 cash to Deutsche Connecticut and Nevada expired in April 2012 and remain Telekom and a contribution to our pension plan of $1,000 subject to negotiation. In addition, during 2012, we entered partially offset by decreased tax payments of $3,506. into a new national four-year contract covering only benefits Operating cash in 2011 was also positively affected by our with the approximately 40,000 employees in our mobility decision to pay approximately $2,500 of retiree postretirement business; contracts covering wages and other non-benefit expenses from plan assets, as opposed to our prior-year election to pay these out of corporate funds.

48 | AT&T Inc. Cash Used in or Provided by Investing Activities weighted maturity of approximately 12 years and an average During 2012, cash used in investing activities consisted interest rate of 2.54%. We redeemed $8,083 in borrowing, primarily of: including $6,200 in early redemptions, with an average interest rate of 5.58%. Debt issued included: • $19,465 in capital expenditures, excluding interest during construction. • $1,000 of 0.875% global notes due 2015. • $263 in interest during construction. • $1,000 of 1.6% global notes due 2017. • $691 purchase of spectrum licenses. • $1,000 of 3% global notes due 2022. • £1,250 of 4.875% global notes due 2044 (equivalent During 2012, cash provided by investing activities consisted to $1,979 when issued). primarily of: • $1,150 of 1.7% global notes due 2017. • $740 from the sale of our Advertising Solutions segment. • $850 of 3% global notes due 2022. • $65 from the sale of securities, net of investments. • €1,000 of 1.875% global notes due 2020 (equivalent to $1,290 when issued). Virtually all of our capital expenditures are spent on our • $1,000 of 0.8% global notes due 2015. wireless and wireline networks, our U-verse services and • $1,500 of 1.4% global notes due 2017. support systems for our communications services. Capital expenditures, excluding interest during construction, decreased • $1,500 of 2.625% global notes due 2022. $645 from 2011 and decreased $544 when including interest • €1,000 of 3.55% global notes due 2032 (equivalent during construction. Capital spending in our Wireless segment, to $1,300 when issued). excluding capitalized interest during construction, represented During 2012, cash paid to redeem debt totaled $8,733 and 55% of our total spending and increased 10% in 2012. consisted of $650 for a debt exchange and the following The Wireline segment, which includes U-verse services, repayments: represented 45% of the total capital expenditures, excluding interest during construction, and decreased 15% in 2012. • $1,835 in repayments of long-term debt with a Wireless expenditures were primarily used for network capacity weighted-average interest rate of 5.40%. expansion, integration and upgrades to our HSPA network • $2,500 for the early redemption of the AT&T Inc. 4.95% and the deployment of LTE equipment. global notes originally due in November 2013. • $1,500 for the early redemption of the AT&T Inc. 6.7% We expect that our capital expenditures during 2013 will notes originally due in November 2013. be in the $21,000 range. This amount may change if the • $1,200 for the early redemption of the AT&T Inc. 6.375% regulatory environment becomes more unfavorable for notes originally due in November 2056. investment. We expect increases in our Wireless segment and • $1,000 for the early redemption of the AT&T Inc. 4.85% stable investments in our Wireline segment. The amount of global notes originally due in February 2014. capital investment is influenced by demand for services and • $48 in repayments of capitalized leases. products, continued growth and regulatory considerations. During 2012, we completed a private debt exchange covering Cash Used in or Provided by Financing Activities $4,099 of various notes with stated rates of 6.00% to 8.75% We paid dividends of $10,241 in 2012, $10,172 in 2011, and for $1,956 in new 4.3% AT&T Inc. global notes due 2042 and $9,916 in 2010, primarily reflecting dividend rate increases $3,044 in new 4.35% AT&T Inc. global notes due 2045 plus a and partially offset by the decline in shares outstanding due $650 cash payment. to our repurchases during 2012. In November 2012, our Board of Directors approved a 2.3% increase in the quarterly On February 12, 2013, we issued $1,000 of 0.900% dividend from $0.44 to $0.45 per share. This follows a 2.3% global notes due 2016 and $1,250 of floating rate notes dividend increase approved by our Board in December 2011. due in 2016. The floating rate for the note is based upon Dividends declared by our Board of Directors totaled $1.77 the three-month London Interbank Offered Rate (LIBOR), per share in 2012, $1.73 per share in 2011, and $1.69 per reset quarterly, plus 38.5 basis points. share in 2010. Our dividend policy considers the expectations At December 31, 2012, we had $3,486 of debt maturing and requirements of stockholders, internal requirements of within one year, substantially all of which was long-term debt AT&T and long-term growth opportunities. It is our intent to maturities. Debt maturing within one year includes the provide the financial flexibility to allow our Board of Directors following notes that may be put back to us by the holders: to consider dividend growth and to recommend an increase in dividends to be paid in future periods. All dividends remain • $1,000 of annual put reset securities issued by BellSouth subject to declaration by our Board of Directors. Corporation that may be put back to us each April until maturity in 2021. In 2012, in response to lower market interest rates, we undertook several activities related to our long-term debt. • An accreting zero-coupon note that may be redeemed During 2012, we received net proceeds of $13,486 from the each May until maturity in 2022. If the zero-coupon note issuance of $13,569 in long-term debt with an average (issued for principal of $500 in 2007) is held to maturity, the redemption amount will be $1,030.

AT&T Inc. | 49 Management’s Discussion and Analysis of Financial Condition and Results of Operations (continued) Dollars in millions except per share amounts

In December 2010, our Board of Directors authorized the • at a rate equal to: (i) the LIBOR for a period of one, repurchase of up to 300 million shares of AT&T common two, three or six months, as applicable, plus (ii) the stock. We began buying back stock under this program in Applicable Margin. the first quarter of 2012. In July 2012, the Board of Directors The Applicable Margin for both agreements will equal 0.565% authorized the repurchase of an additional 300 million per annum if our unsecured long-term debt is rated at least shares. As of December 31, 2012, we have repurchased A+ by Standard & Poor’s (S&P) or Fitch, Inc. (Fitch) or A1 by 371 million shares totaling $12,752. During the fourth- Moody’s Investors Service (Moody’s). The Applicable Margin quarter 2012, we completed the repurchase of shares will be 0.680% per annum if our unsecured long-term debt authorized by the Board of Directors in December 2010 ratings are A or A2 and will be 0.910% per annum in the and continued to repurchase shares under the July 2012 event our unsecured long-term debt ratings are A- and A3 authorization. We expect to continue repurchasing our (or below). In the event that AT&T’s unsecured long-term common stock and plan to complete repurchases under debt ratings are split by S&P, Moody’s and Fitch, then the the July 2012 authorization as early as mid-year. Applicable Margin will be determined by the highest of the We plan to fund our 2013 financing activities through a three ratings, except that in the event the lowest of such combination of cash from operations and debt issuances. ratings is more than one level below the highest of the The timing and mix of debt issuance will be guided by credit ratings then the Applicable Margin will be determined based market conditions and interest rate trends. The emphasis on the level that is one level above the lowest of such ratings. of our financing activities will be the payment of dividends, Under each agreement AT&T will pay a facility fee of 0.060%, subject to approval by our Board of Directors, the repayment 0.070% or 0.090% per annum, depending on AT&T’s credit of debt and share repurchases. rating, of the amount of lender commitments. Credit Facilities Both agreements contain a negative pledge covenant, which On December 11, 2012, we amended and extended for an requires that, if at any time AT&T or a subsidiary pledges additional one-year term our existing $5,000, four-year assets or otherwise permits a lien on its properties, advances revolving credit agreement (Four-Year Agreement) with a under the agreement will be ratably secured, subject to syndicate of banks until December 2016. We also entered specified exceptions. Both agreements also contain a into a new $3,000, five-year revolving credit agreement financial ratio covenant that provides that AT&T will maintain, (Five-Year Agreement), with a syndicate of banks, to replace as of the last day of each fiscal quarter, a debt-to-EBITDA our expiring 364-day revolving credit agreement. In the event (earnings before interest, income taxes, depreciation and advances are made under either agreement, those advances amortization, and other modifications described in the would be used for general corporate purposes. Advances are agreements) ratio of not more than 3.0 to 1, for the four not conditioned on the absence of a material adverse quarters then ended. change. All advances must be repaid no later than the date on which lenders are no longer obligated to make any Defaults under both agreements, which would permit the advances under each agreement. Under each agreement, lenders to accelerate required repayment and which would we can terminate, in whole or in part, amounts committed by increase the Applicable Margin by 2.00% per annum, include: the lenders in excess of any outstanding advances; however, • We fail to pay principal or interest, or other amounts we cannot reinstate any such terminated commitments. under the agreement beyond any grace period. At December 31, 2012, we had no advances outstanding under either agreement and were in compliance with all • We fail to pay when due other debt of $400 or more covenants under each agreement. that results in acceleration of that debt (commonly referred to as cross-acceleration) or a creditor Advances under both agreements would bear interest, at commences enforcement proceedings within a specified AT&T’s option, either: period after a money judgment of $400 or more has become final. • at a variable annual rate equal to (1) the highest of: (a) the base (or prime) rate of the bank affiliate of Citibank, • A person acquires beneficial ownership of more than N.A. which is serving as administrative agent under the 50% of AT&T common shares or more than a majority of Agreement, (b) 0.50% per annum above the Federal AT&T’s directors change in any 24-month period other funds rate, and (c) the LIBOR applicable to U.S. dollars than as elected by the remaining directors (commonly for a period of one month plus 1.00% per annum, plus referred to as a change in control). (2) an applicable margin, as set forth in the Agreement • Material breaches of representations or warranties in the (Applicable Margin); or agreement. • We fail to comply with the negative pledge or debt-to- EBITDA ratio covenants under the agreement.

50 | AT&T Inc. • We fail to comply with other covenants under the A significant amount of our cash outflows are related to tax agreement for a specified period after notice. items and benefits paid for current and former employees. • We fail to make certain minimum funding payments Total taxes incurred, collected and remitted by AT&T during under ERISA. 2012, 2011, and 2010 were $19,703, $19,224 and $24,614. • Our bankruptcy or insolvency. These taxes include income, franchise, property, sales, excise, payroll, gross receipts and various other taxes and fees. Both the Five-Year Agreement and the Four-Year Agreement Total health and welfare benefits provided to certain active contain provisions permitting subsidiaries to be added as and retired employees and their dependents totaled $5,300 additional borrowers, with or without a guarantee by AT&T Inc. in 2012, with $1,842 paid from plan assets. Of those The terms of the guarantee are set forth in the agreements. benefits, $4,427 related to medical and prescription drug Four-Year Agreement benefits. During 2012, we paid $5,729 of pension benefits The obligations of the lenders under the Four-Year Agreement out of plan assets. to provide advances will terminate on December 11, 2016, In October 2012, we filed an application with the U.S. unless prior to that date either: (i) AT&T and, if applicable, Department of Labor (DOL) for approval to contribute a a Co-Borrower, reduces to $0 the commitments of the preferred equity interest in our Mobility business to the trust lenders under the Agreement or (ii) certain events of default used to pay pension benefits under plans sponsored by AT&T. occur. The Agreement also provides that AT&T and lenders The preferred interest does not have any voting rights, has representing more than 50% of the facility amount may a fair market value estimated at $9,500 and a liquidation agree to extend their commitments under the Four-Year value of $8,000 and is entitled to receive cumulative cash Agreement for two additional one-year periods beyond distributions of $560 per annum. So long as we make the the December 11, 2016, termination date, under certain distributions, we will have no limitations on our ability to circumstances. We also can request the lenders to further declare a dividend or repurchase shares. increase their commitments (i.e., raise the available credit) up to an additional $2,000 provided no event of default At December 31, 2012, the present value of AT&T’s pension has occurred. liabilities exceeded the fair value of trust assets by approximately $13,851. The preferred equity interest is Five-Year Agreement estimated to be valued at $9,500 upon contribution and will The obligations of the lenders under the Five-Year Agreement significantly improve the funding for the plans, enhancing to provide advances will terminate on December 11, 2017, the strength of the trust for AT&T’s employees and retirees. unless prior to that date either: (i) AT&T, and if applicable, a Prior to the contribution of the preferred interest, the Co-Borrower, reduce to $0 the commitments of the lenders, estimated required contribution for 2013 is approximately or (ii) certain events of default occur. We and lenders $300. We will continue to work with the DOL to obtain representing more than 50% of the facility amount may agree approval before the end of 2013. If we receive DOL approval to extend their commitments for two one-year periods before the due date, including extensions, for our 2012 beyond the December 11, 2017, termination date, under income tax return, we expect to deduct the contribution certain circumstances. We also can request the lenders to on our 2012 return. Our current income tax liability at further increase their commitments (i.e., raise the available December 31, 2012, reflects a deduction for the pension credit) up to an additional $2,000 provided no event of contribution. default has occurred. CONTRACTUAL OBLIGATIONS, Other COMMITMENTS AND CONTINGENCIES Our total capital consists of debt (long-term debt and debt maturing within one year) and stockholders’ equity. Current accounting standards require us to disclose our Our capital structure does not include debt issued by material obligations and commitments to making future América Móvil. At December 31, 2012, our debt ratio was payments under contracts, such as debt and lease 43.0%, compared to 38.0% at December 31, 2011, and 37.1% agreements, and under contingent commitments, such as at December 31, 2010. The debt ratio is affected by the same debt guarantees. We occasionally enter into third-party debt factors that affect total capital, and reflects our recent debt guarantees, but they are not, nor are they reasonably likely issuances and stock repurchases. Total capital decreased to become, material. We disclose our contractual long-term $8,011 in 2012 compared to a decrease of $7,567 in 2011. debt repayment obligations in Note 8 and our operating The 2012 capital decrease was primarily due to the stock lease payments in Note 5. Our contractual obligations do repurchases of $12,752, which increased our debt ratio not include expected pension and postretirement payments in 2012. as we maintain pension funds and Voluntary Employee Beneficiary Association trusts to fully or partially fund these

AT&T Inc. | 51 Management’s Discussion and Analysis of Financial Condition and Results of Operations (continued) Dollars in millions except per share amounts

benefits (see Note 11). In the ordinary course of business, we past trends were not deemed to be an indicator of routinely enter into commercial commitments for various future payment. aspects of our operations, such as plant additions and office Substantially all of our purchase obligations are in our supplies. However, we do not believe that the commitments Wireline and Wireless segments. The table does not include will have a material effect on our financial condition, results the fair value of our interest rate swaps. Our capital lease of operations or cash flows. obligations and bank borrowings have been excluded from Our contractual obligations as of December 31, 2012, are the table due to the insignificant amounts of such obligations in the following table. The purchase obligations that follow at December 31, 2012. Many of our other noncurrent are those for which we have guaranteed funds and will be liabilities have been excluded from the following table due to funded with cash provided by operations or through the uncertainty of the timing of payments, combined with the incremental borrowings. The minimum commitment for absence of historical trending to be used as a predictor of certain obligations is based on termination penalties that such payments. Additionally, certain other long-term liabilities could be paid to exit the contract. Since termination have been excluded since settlement of such liabilities will penalties would not be paid every year, such penalties are not require the use of cash. However, we have included, in excluded from the table. Other long-term liabilities were the following table, obligations that primarily relate to benefit included in the table based on the year of required payment funding due to the certainty of the timing of these future or an estimate of the year of payment. Such estimate of payments. Our other long-term liabilities are: deferred income payment is based on a review of past trends for these items, taxes (see Note 10) of $28,491; postemployment benefit as well as a forecast of future activities. Certain items were obligations of $41,392; and other noncurrent liabilities of excluded from the following table, as the year of payment $11,592, which included deferred lease revenue from our is unknown and could not be reliably estimated since agreement with American Tower Corp. of $420 (see Note 14).

Contractual Obligations Payments Due By Period Less than 1-3 3-5 More than Total 1 Year Years Years 5 Years Long-term debt obligations1 $ 71,035 $ 3,475 $10,302 $ 9,680 $ 47,578 Interest payments on long-term debt 60,174 3,446 6,503 5,670 44,555 Operating lease obligations 24,065 2,706 5,102 4,502 11,755 Unrecognized tax benefits2 2,945 258 — — 2,687 Purchase obligations3 9,560 3,744 3,890 1,469 457 Retirement benefit funding obligation4 300 300 — — — Total Contractual Obligations $168,079 $13,929 $25,797 $21,321 $107,032 1Represents principal or payoff amounts of notes and debentures at maturity or, for putable debt, the next put opportunity. 2The noncurrent portion of the UTBs is included in the “More than 5 Years” column, as we cannot reasonably estimate the timing or amounts of additional cash payments, if any, at this time. See Note 10 for additional information. 3We calculated the minimum obligation for certain agreements to purchase goods or services based on termination fees that can be paid to exit the contract. If we elect to exit these contracts, termination fees for all such contracts in the year of termination could be approximately $898 in 2013, $989 in the aggregate for 2014 and 2015, $467 in the aggregate for 2016 and 2017, and $352 in the aggregate thereafter. Certain termination fees are excluded from the above table, as the fees would not be paid every year and the timing of such payments, if any, is uncertain. 4Required contribution to our pension plans (see Note 11). Future required pension funding will be determined in accordance with ERISA regulations.

MARKET RISK Interest Rate Risk We are exposed to market risks primarily from changes in The majority of our financial instruments are medium- and interest rates and foreign currency exchange rates. These long-term fixed-rate notes and debentures. Changes in risks, along with other business risks, impact our cost of interest rates can lead to significant fluctuations in the fair capital. It is our policy to manage our debt structure and value of these instruments. The principal amounts by foreign exchange exposure in order to manage capital costs, expected maturity, average interest rate and fair value of control financial risks and maintain financial flexibility over our liabilities that are exposed to interest rate risk are the long term. In managing market risks, we employ described in Notes 8 and 9. In managing interest expense, derivatives according to documented policies and procedures, we control our mix of fixed and floating rate debt, including interest rate swaps, interest rate locks, foreign principally through the use of interest rate swaps. We have currency exchange contracts and combined interest rate established interest rate risk limits that we closely monitor foreign currency contracts (cross-currency swaps). We do not by measuring interest rate sensitivities in our debt and use derivatives for trading or speculative purposes. We do interest rate derivatives portfolios. not foresee significant changes in the strategies we use to manage market risk in the near future.

52 | AT&T Inc. All our foreign-denominated debt has been swapped from Following are our interest rate derivatives subject to material fixed-rate foreign currencies to fixed-rate U.S. dollars at interest rate risk as of December 31, 2012. The interest rates issuance through cross-currency swaps, removing interest illustrated below refer to the average rates we expect to pay rate risk and foreign currency exchange risk associated with based on current and implied forward rates and the average the underlying interest and principal payments. Likewise, rates we expect to receive based on derivative contracts. periodically we enter into interest rate locks to partially The notional amount is the principal amount of the debt hedge the risk of increases in the benchmark interest rate subject to the interest rate swap contracts. The fair value during the period leading up to the probable issuance of asset (liability) represents the amount we would receive (pay) fixed-rate debt. We expect gains or losses in our cross- if we had exited the contracts as of December 31, 2012. currency swaps and interest rate locks to offset the losses and gains in the financial instruments they hedge.

Maturity Fair Value 2013 2014 2015 2016 2017 Thereafter Total 12/31/2012 Interest Rate Derivatives Interest Rate Swaps: Receive Fixed/Pay Variable Notional Amount Maturing $ — $ 500 $1,500 $ — $ — $1,000 $3,000 $287 Weighted-Average Variable Rate Payable1 1.3% 1.3% 1.6% 2.5% 3.1% 3.5% Weighted-Average Fixed Rate Receivable 4.0% 3.9% 4.5% 5.6% 5.6% 5.6% 1Interest payable based on current and implied forward rates for One, Three, or Six Month LIBOR plus a spread ranging between approximately 4 and 275 basis points.

Foreign Exchange Risk to measure the risk of adverse currency fluctuations by We are exposed to foreign currency exchange risk through calculating the potential dollar losses resulting from changes our foreign affiliates and equity investments in foreign in exchange rates that have a reasonable probability of companies. We do not hedge foreign currency translation risk occurring. We cover the exposure that results from changes in the net assets and income we report from these sources. that exceed acceptable amounts. However, we do hedge a large portion of the exchange risk For the purpose of assessing specific risks, we use a involved in anticipation of highly probable foreign currency- sensitivity analysis to determine the effects that market risk denominated transactions and cash flow streams, such as exposures may have on the fair value of our financial those related to issuing foreign-denominated debt, receiving instruments and results of operations. To perform the dividends from foreign investments, and other receipts and sensitivity analysis, we assess the risk of loss in fair values disbursements. from the effect of a hypothetical 10% depreciation of the Through cross-currency swaps, all our foreign-denominated U.S. dollar against foreign currencies from the prevailing debt has been swapped from fixed-rate foreign currencies to foreign currency exchange rates, assuming no change in fixed-rate U.S. dollars at issuance, removing interest rate risk interest rates. For foreign exchange forward contracts and foreign currency exchange risk associated with the outstanding at December 31, 2012, the change in fair value underlying interest and principal payments. We expect gains was immaterial. Furthermore, because our foreign exchange or losses in our cross-currency swaps to offset the losses and contracts are entered into for hedging purposes, we believe gains in the financial instruments they hedge. that these losses would be largely offset by gains on the underlying transactions. In anticipation of other foreign currency-denominated transactions, we often enter into foreign exchange forward contracts to provide currency at a fixed rate. Our policy is

AT&T Inc. | 53 Management’s Discussion and Analysis of Financial Condition and Results of Operations (continued) Dollars in millions except per share amounts

STOCK PERFORMANCE GRAPH Comparison of Five Year Cumulative Total Return AT&T Inc., S&P 500 Index, and S&P 500 Integrated Telecom Index

140

130 AT&T Inc. S&P 500 Index S&P 500 Integrated Telecom Index

120 117

110 109 AT&T Inc.

102 108 100 95 S&P 500 Integrated 94 Telecom Index 90 92 92

S&P 500 Index 80 80 84 80 75

72 75 70

63 60 12/07 12/08 12/09 12/10 12/11 12/12

The comparison above assumes $100 invested on December 31, 2007, in AT&T common stock, Standard & Poor’s 500 Index (S&P 500), and Standard & Poor’s 500 Integrated Telecom Index (S&P 500 Integrated Telecom). Total return equals stock price appreciation plus reinvestment of dividends.

RISK FACTORS decrease in revenues and an increase in certain expenses, In addition to the other information set forth in this document, including expenses relating to bad debt and equipment and including the matters contained under the caption software maintenance. We also may incur difficulties locating “Cautionary Language Concerning Forward-Looking financially stable equipment and other suppliers, thereby Statements,” you should carefully read the matters described affecting our ability to offer attractive new services. We are below. We believe that each of these matters could materially also likely to experience greater pressure on pricing and affect our business. We recognize that most of these factors margins as we continue to compete for customers who would are beyond our ability to control and therefore we cannot have even less discretionary income. While our largest predict an outcome. Accordingly, we have organized them by business customers have been less affected by these adverse first addressing general factors, then industry factors and, changes in the U.S. economy, if the continued adverse finally, items specifically applicable to us. economic conditions in the United States, Europe and other foreign markets persist or worsen, those customers would A worsening U.S. economy would magnify our customers’ likely be affected in a similar manner. and suppliers’ current financial difficulties and could materially adversely affect our business. Adverse changes in medical costs and the U.S. securities We provide services and products to consumers and large markets and a further decline in interest rates could and small businesses in the United States and to larger materially increase our benefit plan costs. businesses throughout the world. Current economic Our costs to provide current benefits and funding for future conditions in the United States have adversely affected our benefits are subject to increases, primarily due to continuing customers’ demand for and ability to pay for existing services, increases in medical and prescription drug costs, and can be especially local landline service, and their interest in affected by lower returns on funds held by our pension and purchasing new services. Our suppliers are also facing higher other benefit plans, which are reflected in our financial financing and operating costs. Should these current economic statements for that year. Investment returns on these funds conditions worsen, we likely would experience both a depend largely on trends in the U.S. securities markets and

54 | AT&T Inc. the U.S. economy. We have experienced historically low prospects. While we have been successful in continuing to interest rates during the last several years and we expect access the credit and fixed income markets when needed, these rates to continue at similarly low levels for the next adverse changes in the financial markets could render us several years; this has led to both lower investment returns either unable to access these markets or able to access these on our plan assets and to higher funding obligations. It is markets only at higher interest costs and with restrictive also unclear how many provisions of the new national financial or other conditions, severely affecting our business healthcare law will apply to us since many regulations operations. implementing the law have not been finalized. In calculating Changes in available technology could increase the costs included on our financial statements of providing competition and our capital costs. benefits under our plans, we have made certain assumptions regarding future investment returns, medical costs and The telecommunications industry has experienced rapid interest rates. If actual investment returns, medical costs and changes in the past several years. The development of interest rates are worse than those previously assumed, our wireless, cable and IP technologies has significantly increased costs will increase. the commercial viability of alternatives to traditional wireline telephone service and enhanced the capabilities of wireless The Financial Accounting Standards Board (FASB) requires networks. In order to remain competitive, we are deploying a companies to recognize the funded status of defined benefit more sophisticated wireline network and continue to deploy pension and postretirement plans as an asset or liability a more sophisticated wireless network, as well as research in our statement of financial position and to recognize other new technologies. We expect our recently announced changes in that funded status in the year in which the plans to significantly expand and enhance our wireless and changes occur. We have elected to reflect the annual wireline IP broadband networks will result in increased capital adjustments to the funded status in our consolidated expenditures and increased debt levels as these plans are statement of income. Therefore, an increase in our costs implemented. If the new technologies we have adopted or or adverse market conditions will have a negative effect on which we have focused our research efforts fail to be on our operating results. cost-effective and accepted by customers, our ability to remain competitive could be materially adversely affected. Adverse changes in global financial markets could limit our ability and our larger customers’ ability to access Changes to federal, state and foreign government capital or increase the cost of capital needed to fund regulations and decisions in regulatory proceedings could business operations. materially adversely affect us. The continuing instability in the global financial markets has Our wireline subsidiaries are subject to significant federal resulted in periodic volatility in the credit, currency, equity and state regulation while many of our competitors are not. and fixed income markets. Volatility has limited, in some In addition, our subsidiaries and affiliates operating outside cases severely, companies’ access to the credit markets, the United States are also subject to the jurisdiction of leading to higher borrowing costs for companies or, in some national and supranational regulatory authorities in the cases, the inability of these companies to fund their ongoing market where service is provided. Our wireless subsidiaries operations. As a result, our larger customers, who tend to be are regulated to varying degrees by the FCC and some state heavy users of our data and wireless services, may be forced and local agencies. Adverse rulings by the FCC relating to to delay or reduce or be unable to finance purchases of our broadband issues could impede our ability to manage our products and services and may delay payment or default on networks and recover costs and lessen incentives to invest outstanding bills to us. In addition, we contract with large in our networks. The development of new technologies, such financial institutions to support our own treasury operations, as IP-based services, also has created or potentially could including contracts to hedge our exposure on interest rates create conflicting regulation between the FCC and various and foreign exchange and the funding of credit lines and state and local authorities, which may involve lengthy other short-term debt obligations, including commercial litigation to resolve and may result in outcomes unfavorable paper. These financial institutions also face new capital- to us. In addition, increased public focus on potential global related and other regulations in the United States and climate changes has led to proposals at state, federal and Europe, as well as ongoing legal and financial issues foreign government levels to increase regulation on various concerning their loan portfolios, which may hamper their types of emissions, including those generated by vehicles and ability to provide credit or raise the cost of providing such by facilities consuming large amounts of electricity. We do credit. A company’s cost of borrowing is also affected by not expect these proposals to have a material adverse impact evaluations given by various credit rating agencies and these on our operating results, and they could create increased agencies have been applying tighter credit standards when demand for communications services as companies seek to evaluating a company’s debt levels and future growth reduce emissions.

AT&T Inc. | 55 Management’s Discussion and Analysis of Financial Condition and Results of Operations (continued) Dollars in millions except per share amounts

Continuing growth in our wireless services will depend This competition and our capacity issues will continue to put on continuing access to adequate spectrum, deployment pressure on pricing and margins as companies compete for of new technology and offering attractive services to potential customers. Our ability to respond will depend, customers. among other things, on continued improvement in network The wireless industry is undergoing rapid and significant quality and customer service and effective marketing of technological changes and a dramatic increase in usage, in attractive products and services, and cost management. particular demand for and usage of data and other non-voice These efforts will involve significant expenses and require services. We must continually invest in our wireless network strategic management decisions on, and timely in order to continually improve our wireless service to implementation of, equipment choices, network deployment meet this increasing demand and remain competitive. and management, and service offerings. Improvements in our service depend on many factors, Increasing costs in our wireline operations could adversely including continued access to and deployment of adequate affect wireline operating margins. spectrum. We must maintain and expand our network We expect our operating costs, including customer capacity and coverage as well as the associated wireline acquisition and retention costs will continue to put pressure network needed to transport voice and data between cell on pricing, margins and customer retention levels. A number sites. To this end, we have announced plans to accelerate of our competitors that rely on alternative technologies our deployment of LTE wireless technology and deploy other (e.g., wireless, cable and VoIP) and business models technology advancements in order to further improve (e.g., advertising-supported) are typically subject to less (or network quality and the efficient use of our spectrum. no) regulation than our wireline subsidiaries and therefore Network service enhancements and product launches may are able to operate with lower costs. These competitors not occur as scheduled or at the cost expected due to many also have cost advantages compared to us, due in part to factors, including delays in determining equipment and operating on newer, more technically advanced and lower- handset operating standards, supplier delays, increases in cost networks and a nonunionized workforce, lower employee network equipment and handset component costs, regulatory benefits and fewer retirees (as most of the competitors are permitting delays for tower sites or enhancements or relatively new companies). Over time these cost disparities labor-related delays. Deployment of new technology also could require us to evaluate the strategic worth of various may adversely affect the performance of the network for wireline operations. To this end, we have begun initiatives existing services. If the FCC does not fairly allocate sufficient at both the state and federal levels to obtain regulatory spectrum to allow the wireless industry in general, and the approvals, where needed, to transition services from our older Company in particular, to increase its capacity or if we cannot copper-based network to an advanced IP-based network. acquire needed spectrum or deploy the services customers If we do not obtain regulatory approvals for this transition or desire on a timely basis without burdensome conditions or at obtain approvals with onerous conditions attached, we could adequate cost while maintaining network quality levels, then experience significant cost and competitive disadvantages. our ability to attract and retain customers, and therefore The continued success of our U-verse services initiative maintain and improve our operating margins, could be will depend on the development of attractive and materially adversely affected. profitable broadband and video service offerings; the Increasing competition for wireless customers could extent to which regulatory, franchise fees and build-out adversely affect our operating results. requirements apply to this initiative; the availability of We have multiple wireless competitors in each of our service content on reasonable terms and conditions, including areas and compete for customers based principally on price, and the availability and reliability of the various service/device offerings, price, call quality, coverage area technologies required to provide such offerings. and customer service. In addition, we are facing growing Telecommunications technology has shifted from the competition from providers offering services using alternative traditional circuit- and wire-based technology to IP-based wireless technologies and IP-based networks as well as technology. IP-based technology can transport voice and traditional wireline networks. We expect market saturation data, as well as video, from both wired and wireless to continue to cause the wireless industry’s customer growth networks. IP-based networks also potentially cost less to rate to moderate in comparison with historical growth rates, operate than traditional networks. Our competitors, many leading to increased competition for customers. We also of which are newer companies, are deploying this IP-based expect that our customers’ growing demand for data technology. In order to continue to offer attractive and services will place constraints on our network capacity. competitively priced services, we have deployed a new

56 | AT&T Inc. broadband network to offer IP-based voice, data and video Equipment failures, natural disasters, computer hacking services. Should regulatory requirements change, our and terrorist acts may materially adversely affect deployment could be limited to only those geographical our operations. areas where regulation is not burdensome. In addition, should Major equipment failures or natural disasters, including severe the delivery of services expected to be deployed on our weather, computer hacking, terrorist acts or other breaches network be delayed due to technological or regulatory of network or IT security that affect our wireline and wireless constraints, performance of suppliers, or other reasons, or networks, including telephone switching offices, microwave the cost of providing such services, including the availability links, third-party-owned local and long-distance networks on and cost of content for our video offerings, becomes higher which we rely, our cell sites or other equipment, or our than expected, customers may decide to purchase services customer account support and information systems, could from our competitors, which would adversely affect our have a material adverse effect on our operations. While we revenues and margins, and such effects could be material. have been subject to security breaches or cyber attacks, these did not result in a material adverse effect on our Unfavorable litigation or governmental investigation operations. Our inability to operate our wireline, wireless or results could require us to pay significant amounts or customer-related support systems as a result of such events, lead to onerous operating procedures. even for a limited time period, could result in significant We are subject to a number of lawsuits both in the expenses, potential legal liability or a loss of customers or United States and in foreign countries, including, at any impair our ability to attract new customers, any of which particular time, claims relating to antitrust; patent could have a material adverse effect on our business, results infringement; wage and hour; personal injury; and our of operations and financial condition. advertising, sales and billing and collection practices. We also spend substantial resources complying with A majority of our workforce is represented by labor various government standards, which may entail related unions. Absent the successful negotiation of agreements investigations. As we deploy newer technologies, especially that either expired during 2012 or are scheduled to in the wireless area, we also face current and potential expire during 2013, we could experience lengthy litigation relating to alleged adverse health effects on work stoppages. customers or employees who use such technologies A majority of our employees are represented by labor unions including, for example, wireless handsets. We may incur as of year-end 2012. Labor contracts covering many of the significant expenses defending such suits or government employees either will expire during 2013 or expired during charges and may be required to pay amounts or otherwise 2012 and remain subject to negotiation. We experienced a change our operations in ways that could materially work stoppage in 2004 when the contracts involving our adversely affect our operations or financial results. wireline employees expired, and we may experience additional work stoppages in 2013. A work stoppage could adversely affect our business operations, including a loss of revenue and strained relationships with customers, and we cannot predict the length of any such strike. We cannot predict the new contract provisions or the impact of any new contract on our financial condition.

AT&T Inc. | 57 Management’s Discussion and Analysis of Financial Condition and Results of Operations (continued) Dollars in millions except per share amounts

CAUTIONARY LANGUAGE CONCERNING • Our ability to develop attractive and profitable product/ FORWARD-LOOKING STATEMENTS service offerings to offset increasing competition in our wireless and wireline markets. Information set forth in this report contains forward-looking • The ability of our competitors to offer product/service statements that are subject to risks and uncertainties, and offerings at lower prices due to lower cost structures and actual results could differ materially. Many of these factors regulatory and legislative actions adverse to us, including are discussed in more detail in the “Risk Factors” section. state regulatory proceedings relating to unbundled network We claim the protection of the safe harbor for forward-looking elements and nonregulation of comparable alternative statements provided by the Private Securities Litigation Reform technologies (e.g., VoIP). Act of 1995. • The development of attractive and profitable U-verse The following factors could cause our future results to service offerings; the extent to which regulatory, franchise differ materially from those expressed in the forward-looking fees and build-out requirements apply to this initiative; and statements: the availability, cost and/or reliability of the various • Adverse economic and/or capital access changes in the technologies and/or content required to provide such markets served by us or in countries in which we have offerings. significant investments, including the impact on customer • Our continued ability to attract and offer a diverse portfolio demand and our ability and our suppliers’ ability to access of wireless devices, some on an exclusive basis. financial markets at favorable rates. • The availability and cost of additional wireless spectrum • Changes in available technology and the effects of such and regulations and conditions relating to spectrum use, changes, including product substitutions and deployment licensing, obtaining additional spectrum, technical costs. standards and deployment and usage, including network • Increases in our benefit plans’ costs, including increases management rules. due to adverse changes in the United States and foreign • Our ability to manage growth in wireless data services, securities markets, resulting in worse-than-assumed including network quality and acquisition of adequate investment returns and discount rates and adverse medical spectrum at reasonable costs and terms. cost trends and unfavorable healthcare legislation, • The outcome of pending, threatened or potential litigation, regulations or related court decisions. including patent and product safety claims by or against • The final outcome of FCC and other federal agency third parties. proceedings and reopenings of such proceedings and • The impact on our networks and business from major judicial reviews, if any, of such proceedings, including issues equipment failures; security breaches related to the relating to access charges, intercarrier compensation, network or customer information; our inability to obtain interconnection obligations, transitioning from legacy handsets, equipment/software or have handsets, technologies to IP-based infrastructure, universal service, equipment/software serviced in a timely and cost-effective broadband deployment, E911 services, competition, net manner from suppliers; or severe weather conditions, neutrality, unbundled loop and transport elements, natural disasters, pandemics, energy shortages, wars or availability of new spectrum from the FCC on fair and terrorist attacks. balanced terms, wireless license awards and renewals and • The issuance by the Financial Accounting Standards Board wireless services, including data roaming agreements and or other accounting oversight bodies of new accounting spectrum allocation, and the sunset of the traditional standards or changes to existing standards. copper-based network services and regulatory obligations. • The issuance by the Internal Revenue Service and/or state • The final outcome of regulatory proceedings in the states tax authorities of new tax regulations or changes to in which we operate and reopenings of such proceedings existing standards and actions by federal, state or local tax and judicial reviews, if any, of such proceedings, including agencies and judicial authorities with respect to applying proceedings relating to Interconnection terms, access applicable tax laws and regulations and the resolution of charges, universal service, unbundled network elements disputes with any taxing jurisdictions. and resale and wholesale rates; broadband deployment • Our ability to adequately fund our wireless operations, including our U-verse services; net neutrality; performance including payment for additional spectrum network measurement plans; service standards; and intercarrier and upgrades and technological advancements. other traffic compensation. • Changes in our corporate strategies, such as changing • Enactment of additional state, federal and/or foreign network requirements or acquisitions and dispositions, regulatory and tax laws and regulations pertaining to our which may require significant amounts of cash or stock, subsidiaries and foreign investments, including laws and to respond to competition and regulatory, legislative and regulations that reduce our incentive to invest in our technological developments. networks, resulting in lower revenue growth and/or higher • The uncertainty surrounding further congressional action operating costs. to address spending reductions and negotiations over the • Our ability to absorb revenue losses caused by increasing debt ceiling, which may result in a significant reduction in competition, including offerings that use alternative government spending and reluctance of businesses and technologies (e.g., cable, wireless and VoIP) and our ability consumers to spend in general and on our products and to maintain capital expenditures. services specifically, due to this fiscal uncertainty. • The extent of competition and the resulting pressure on Readers are cautioned that other factors discussed in this customer and access line totals and wireline and wireless report, although not enumerated here, also could materially operating margins. affect our future earnings.

58 | AT&T Inc. Consolidated Statements of Income Dollars in millions except per share amounts

2012 2011 2010 Operating Revenues Wireless service $ 59,186 $ 56,726 $ 53,510 Data 31,798 29,560 27,512 Voice 22,619 25,126 28,332 Directory 1,049 3,293 3,935 Other 12,782 12,018 10,991 Total operating revenues 127,434 126,723 124,280 Operating Expenses Cost of services and sales (exclusive of depreciation and amortization shown separately below) 55,215 54,836 50,257 Selling, general and administrative 41,079 41,382 34,986 Impairment of intangible assets — 2,910 85 Depreciation and amortization 18,143 18,377 19,379 Total operating expenses 114,437 117,505 104,707 Operating Income 12,997 9,218 19,573 Other Income (Expense) Interest expense (3,444) (3,535) (2,994) Equity in net income of affiliates 752 784 762 Other income (expense) – net 134 249 897 Total other income (expense) (2,558) (2,502) (1,335) Income from Continuing Operations Before Income Taxes 10,439 6,716 18,238 Income tax (benefit) expense 2,900 2,532 (1,162) Income from Continuing Operations 7,539 4,184 19,400 Income from Discontinued Operations, net of tax — — 779 Net Income 7,539 4,184 20,179 Less: Net Income Attributable to Noncontrolling Interest (275) (240) (315) Net Income Attributable to AT&T $ 7,264 $ 3,944 $ 19,864 Basic Earnings Per Share from Continuing Operations Attributable to AT&T $ 1.25 $ 0.66 $ 3.23 Basic Earnings Per Share from Discontinued Operations Attributable to AT&T — — 0.13 Basic Earnings Per Share Attributable to AT&T $ 1.25 $ 0.66 $ 3.36 Diluted Earnings Per Share from Continuing Operations Attributable to AT&T $ 1.25 $ 0.66 $ 3.22 Diluted Earnings Per Share from Discontinued Operations Attributable to AT&T — — 0.13 Diluted Earnings Per Share Attributable to AT&T $ 1.25 $ 0.66 $ 3.35 The accompanying notes are an integral part of the consolidated financial statements.

AT&T Inc. | 59 Consolidated Statements of Comprehensive Income Dollars in millions

2012 2011 2010 Net income $7,539 $4,184 $20,179 Other comprehensive income, net of tax: Foreign currency translation adjustments (includes $0, $(1) and $3 attributable to noncontrolling interest), net of taxes of $48, $66 and $146 87 122 274 Net unrealized gains (losses) on available-for-sale securities: Unrealized gains (losses), net of taxes of $64, $(21), and $(12) 118 (41) (22) Reclassification adjustment realized in net income, net of taxes of $(36), $(29) and $7 (68) (54) 14 Net unrealized gains (losses) on cash flow hedges: Unrealized gains (losses), net of taxes of $154, $(140) and $(182) 283 (256) (334) Reclassification adjustment included in net income, net of taxes of $15, $8 and $7 28 15 12 Defined benefit postretirement plans: Net actuarial loss from equity method investees arising during period, net of taxes of $(32), $0 and $0 (53) — — Net prior service credit arising during period, net of taxes of $1,378, $699 and $298 2,249 1,140 487 Amortization of net prior service credit included in net income, net of taxes of $(361), $(282) and $(243) (588) (460) (396) Other — 1 2 Other comprehensive income 2,056 467 37 Total comprehensive income 9,595 4,651 20,216 Less: Total comprehensive income attributable to noncontrolling interest (275) (239) (318) Total Comprehensive Income Attributable to AT&T $9,320 $4,412 $19,898 The accompanying notes are an integral part of the consolidated financial statements.

60 | AT&T Inc. Consolidated Balance Sheets Dollars in millions except per share amounts

December 31, 2012 2011 Assets Current Assets Cash and cash equivalents $ 4,868 $ 3,045 Accounts receivable – net of allowances for doubtful accounts of $547 and $878 12,657 13,231 Prepaid expenses 1,035 1,102 Deferred income taxes 1,036 1,470 Other current assets 3,110 4,137 Total current assets 22,706 22,985 Property, Plant and Equipment – Net 109,767 107,087 Goodwill 69,773 70,842 Licenses 52,352 51,374 Customer Lists and Relationships – Net 1,391 2,757 Other Intangible Assets – Net 5,032 5,212 Investments in and Advances to Equity Affiliates 4,581 3,718 Other Assets 6,713 6,467 Total Assets $272,315 $270,442 Liabilities and Stockholders’ Equity Current Liabilities Debt maturing within one year $ 3,486 $ 3,453 Accounts payable and accrued liabilities 20,911 19,956 Advanced billing and customer deposits 3,808 3,872 Accrued taxes 1,026 1,003 Dividends payable 2,556 2,608 Total current liabilities 31,787 30,892 Long-Term Debt 66,358 61,300 Deferred Credits and Other Noncurrent Liabilities Deferred income taxes 28,491 25,748 Postemployment benefit obligation 41,392 34,011 Other noncurrent liabilities 11,592 12,694 Total deferred credits and other noncurrent liabilities 81,475 72,453 Stockholders’ Equity Common stock ($1 par value, 14,000,000,000 authorized at December 31, 2012 and 2011: issued 6,495,231,088 at December 31, 2012 and 2011) 6,495 6,495 Additional paid-in capital 91,038 91,156 Retained earnings 22,481 25,453 Treasury stock (913,836,325 at December 31, 2012 and 568,719,202 at December 31, 2011, at cost) (32,888) (20,750) Accumulated other comprehensive income 5,236 3,180 Noncontrolling interest 333 263 Total stockholders’ equity 92,695 105,797 Total Liabilities and Stockholders’ Equity $272,315 $270,442 The accompanying notes are an integral part of the consolidated financial statements.

AT&T Inc. | 61 Consolidated Statements of Cash Flows Dollars in millions

2012 2011 2010 Operating Activities Net income $ 7,539 $ 4,184 $ 20,179 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation and amortization 18,143 18,377 19,379 Undistributed earnings from investments in equity affiliates (615) (623) (603) Provision for uncollectible accounts 1,117 1,136 1,334 Deferred income tax expense and noncurrent unrecognized tax benefits 1,285 2,937 (3,280) Net (gain) loss from sale of investments, net of impairments (19) (89) (802) Impairment of intangible assets — 2,910 85 Actuarial loss on pension and postretirement benefits 9,994 6,280 2,521 Income from discontinued operations — — (779) Changes in operating assets and liabilities: Accounts receivable (1,365) (1,164) (101) Other current assets 1,017 (397) (185) Accounts payable and accrued liabilities 1,798 (341) (1,230) Retirement benefit funding — (1,000) — Other − net 282 2,533 (1,296) Total adjustments 31,637 30,559 15,043 Net Cash Provided by Operating Activities 39,176 34,743 35,222 Investing Activities Construction and capital expenditures: Capital expenditures (19,465) (20,110) (19,530) Interest during construction (263) (162) (772) Acquisitions, net of cash acquired (828) (2,368) (2,906) Dispositions 812 1,301 1,830 Sales (purchases) of securities, net 65 62 (100) Other (1) 27 29 Net Cash Used in Investing Activities (19,680) (21,250) (21,449) Financing Activities Net change in short-term borrowings with original maturities of three months or less 1 (1,625) 1,592 Issuance of long-term debt 13,486 7,936 2,235 Repayment of long-term debt (8,733) (7,574) (9,294) Purchase of treasury stock (12,752) — — Issuance of treasury stock 477 237 50 Dividends paid (10,241) (10,172) (9,916) Other 89 (451) (516) Net Cash Used in Financing Activities (17,673) (11,649) (15,849) Net increase (decrease) in cash and cash equivalents 1,823 1,844 (2,076) Cash and cash equivalents beginning of year 3,045 1,201 3,277 Cash and Cash Equivalents End of Year $ 4,868 $ 3,045 $ 1,201 The accompanying notes are an integral part of the consolidated financial statements.

62 | AT&T Inc. Consolidated Statements of Changes in Stockholders’ Equity Dollars and shares in millions except per share amounts

2012 2011 2010 Shares Amount Shares Amount Shares Amount Common Stock Balance at beginning of year 6,495 $ 6,495 6,495 $ 6,495 6,495 $ 6,495 Issuance of stock — — — — — — Balance at end of year 6,495 $ 6,495 6,495 $ 6,495 6,495 $ 6,495 Additional Paid-In Capital Balance at beginning of year $ 91,156 $ 91,731 $ 91,707 Issuance of treasury stock 120 132 159 Share-based payments (78) (118) (130) Share of equity method investee capital transactions (160) (290) — Change related to acquisition of interests held by noncontrolling owners — (299) (5) Balance at end of year $ 91,038 $ 91,156 $ 91,731 Retained Earnings Balance at beginning of year $ 25,453 $ 31,792 $ 21,944 Net income attributable to AT&T ($1.25, $0.66 and $3.35 per diluted share) 7,264 3,944 19,864 Dividends to stockholders ($1.77, $1.73 and $1.69 per share) (10,196) (10,244) (9,985) Other (40) (39) (31) Balance at end of year $ 22,481 $ 25,453 $ 31,792 Treasury Stock Balance at beginning of year (568) $ (20,750) (584) $ (21,083) (593) $ (21,260) Repurchase of common stock (371) (12,752) — — — — Issuance of treasury stock 25 614 16 333 9 177 Balance at end of year (914) $ (32,888) (568) $ (20,750) (584) $ (21,083) Accumulated Other Comprehensive Income Attributable to AT&T, net of tax: Balance at beginning of year $ 3,180 $ 2,712 $ 2,678 Other comprehensive income attributable to AT&T 2,056 468 34 Balance at end of year $ 5,236 $ 3,180 $ 2,712 Noncontrolling Interest: Balance at beginning of year $ 263 $ 303 $ 425 Net income attributable to noncontrolling interest 275 240 315 Distributions (205) (220) (278) Acquisition of interests held by noncontrolling owners — (59) (162) Translation adjustments attributable to noncontrolling interest, net of taxes — (1) 3 Balance at end of year $ 333 $ 263 $ 303 Total Stockholders’ Equity at beginning of year $105,797 $111,950 $101,989 Total Stockholders’ Equity at end of year $ 92,695 $105,797 $111,950 The accompanying notes are an integral part of the consolidated financial statements.

AT&T Inc. | 63 Notes to Consolidated Financial Statements Dollars in millions except per share amounts

NOTE 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Cash and Cash Equivalents Cash and cash equivalents include all highly-liquid investments with original maturities Basis of Presentation Throughout this document, AT&T Inc. is of three months or less. The carrying amounts approximate referred to as “AT&T,” “we” or the “Company.” The consolidated fair value. At December 31, 2012, we held $482 in cash and financial statements include the accounts of the Company and $4,386 in money market funds and other cash equivalents. our majority-owned subsidiaries and affiliates. Our subsidiaries and affiliates operate in the communications services industry Revenue Recognition Revenues derived from wireless, both domestically and internationally, providing wireless local telephone, long distance, data and video services communications services, local exchange services, long- are recognized when services are provided. This is based distance services, data/broadband and Internet services, video upon either usage (e.g., minutes of traffic/bytes of data services, telecommunications equipment, managed networking processed), period of time (e.g., monthly service fees) or and wholesale services. During 2012, we sold our Advertising other established fee schedules. Our wireless service Solutions segment (see Note 4). revenues are billed either in advance, arrears or are prepaid. All significant intercompany transactions are eliminated in We record an estimated revenue reduction for future the consolidation process. Investments in partnerships and adjustments to customer accounts, other than bad debt less than majority-owned subsidiaries where we have expense, at the time revenue is recognized based on significant influence are accounted for under the equity historical experience. Service revenues also include billings method. Earnings from certain foreign equity investments to our customers for various regulatory fees imposed on accounted for using the equity method are included for us by governmental authorities. Cash incentives given to periods ended within up to one month of our year end customers are recorded as a reduction of revenue. (see Note 7). We also record our proportionate share of When required as part of providing service, revenues and our equity method investees’ other comprehensive income associated expenses related to nonrefundable, upfront service (OCI) items, including actuarial gains and losses on pension activation and setup fees are deferred and recognized over and other postretirement benefit obligations. the associated service contract period or customer life. Associated expenses are deferred only to the extent of such The preparation of financial statements in conformity with deferred revenue. For contracts that involve the bundling of U.S. generally accepted accounting principles (GAAP) services, revenue is allocated to the services based on their requires management to make estimates and assumptions relative selling price, subject to the requirement that revenue that affect the amounts reported in the financial statements recognized is limited to the amounts already received from and accompanying notes, including estimates of probable the customer that are not contingent upon the delivery losses and expenses. Actual results could differ from those of additional products or services to the customer in the estimates. We have reclassified and reallocated certain future. We record the sale of equipment to customers as amounts in prior-period financial statements to conform to gross revenue when we are the primary obligor in the the current period’s presentation, including a reclassification arrangement, when title is passed and when the products are and realignment of certain operating expenses based on accepted by customers. For agreements involving the resale an enhanced activity-based expense tracking system. of third-party services in which we are not considered the Income Taxes We provide deferred income taxes for primary obligor of the arrangement, we record the revenue temporary differences between the carrying amounts of net of the associated costs incurred. For contracts in which assets and liabilities for financial reporting purposes and we provide customers with an indefeasible right to use the computed tax basis of those assets and liabilities. network capacity, we recognize revenue ratably over the We provide valuation allowances against the deferred tax stated life of the agreement. assets for which the realization is uncertain. We review Traffic Compensation Expense We use various estimates these items regularly in light of changes in federal and and assumptions to determine the amount of traffic state tax laws and changes in our business. compensation expenses recognized during any reporting We report, on a net basis, taxes imposed by governmental period. Switched traffic compensation costs are accrued authorities on revenue-producing transactions between us utilizing estimated rates and volumes by product, formulated and our customers in our consolidated statements of income. from historical data and adjusted for known rate changes. Such estimates are adjusted monthly to reflect newly available information, such as rate changes and new contractual agreements. Bills reflecting actual incurred information are generally not received within three months subsequent to the

64 | AT&T Inc. end of the reporting period, at which point a final adjustment undiscounted cash flows expected to result from the use is made to the accrued switched traffic compensation and eventual disposition of the asset. expense. Dedicated traffic compensation costs are estimated The fair value of a liability for an asset retirement obligation based on the number of circuits and the average projected is recorded in the period in which it is incurred if a circuit costs. reasonable estimate of fair value can be made. In periods Allowance for Doubtful Accounts We record an expense subsequent to initial measurement, we recognize period-to- to maintain an allowance for doubtful accounts for estimated period changes in the liability resulting from the passage losses that result from the failure or inability of our of time and revisions to either the timing or the amount customers to make required payments. When determining of the original estimate. The increase in the carrying value the allowance, we consider the probability of recoverability of the associated long-lived asset is depreciated over the of accounts receivable based on past experience, taking corresponding estimated economic life. into account current collection trends as well as general Software Costs It is our policy to capitalize certain costs economic factors, including bankruptcy rates. Credit risks are incurred in connection with developing or obtaining internal- assessed based on historical write-offs, net of recoveries, as use software. Capitalized software costs are included in well as an analysis of the aged accounts receivable balances “Property, Plant and Equipment” on our consolidated balance with allowances generally increasing as the receivable ages. sheets and are primarily amortized over a three-year period. Accounts receivable may be fully reserved for when specific In addition, there is certain network software that allows the collection issues are known to exist, such as pending equipment to provide the features and functions unique to bankruptcy or catastrophes. the AT&T network, which we include in the cost of the Inventory Inventories, which are included in “Other current equipment categories for financial reporting purposes. assets” on our consolidated balance sheets, were $1,036 Goodwill and Other Intangible Assets AT&T has four at December 31, 2012, and $1,188 at December 31, 2011. major classes of intangible assets: goodwill, Federal Wireless handsets and accessories, which are valued at Communications Commission (FCC) licenses, other indefinite- the lower of cost or market (determined using current lived intangible assets, made up predominately of the AT&T replacement cost) were $888 as of December 31, 2012, brand, and various other finite-lived intangible assets. and $1,082 as of December 31, 2011. The remainder of our inventory includes new and reusable supplies and network Goodwill represents the excess of consideration paid over the equipment of our local telephone operations, which are fair value of net assets acquired in business combinations. stated principally at average original cost, or specific costs FCC licenses provide us with the exclusive right to utilize in the case of large individual items. Inventories of our other certain radio frequency spectrum to provide wireless subsidiaries are stated at the lower of cost or market. communications services. While FCC licenses are issued for a fixed period of time (generally 10 years), renewals of FCC Property, Plant and Equipment Property, plant and licenses have occurred routinely and at nominal cost. equipment is stated at cost, except for assets acquired using Moreover, we have determined that there are currently acquisition accounting, which are initially recorded at fair no legal, regulatory, contractual, competitive, economic or value (see Note 5). The cost of additions and substantial other factors that limit the useful lives of our FCC licenses. improvements to property, plant and equipment is We acquired the rights to the AT&T and other brand names capitalized. The cost of maintenance and repairs of property, in previous acquisitions. We have the effective ability to retain plant and equipment is charged to operating expenses. these exclusive rights permanently at a nominal cost. Property, plant and equipment costs are depreciated using straight-line methods over their estimated economic lives. Goodwill, FCC licenses and other indefinite-lived intangible Certain subsidiaries follow composite group depreciation assets are not amortized but are tested at least annually for methodology. Accordingly, when a portion of their impairment. The testing is performed on the value as of depreciable property, plant and equipment is retired in October 1 each year, and compares the book value of the the ordinary course of business, the gross book value is assets to their fair value. Goodwill is tested by comparing the reclassified to accumulated depreciation, and no gain book value of each reporting unit, deemed to be our principal or loss is recognized on the disposition of these assets. operating segments (Wireless and Wireline), to the fair value of those reporting units calculated under a discounted cash Property, plant and equipment is reviewed for recoverability flow approach as well as a market multiple approach. FCC whenever events or changes in circumstances indicate that licenses are tested for impairment on an aggregate basis, the carrying amount may not be recoverable. We recognize consistent with the management of the business on a national an impairment loss when the carrying amount of a long-lived scope. We perform our test of the fair values of FCC licenses asset is not recoverable. The carrying amount of a long-lived using a discounted cash flow model. Brand names are tested asset is not recoverable if it exceeds the sum of the by comparing the book value to a fair value calculated using

AT&T Inc. | 65 Notes to Consolidated Financial Statements (continued) Dollars in millions except per share amounts

a discounted cash flow approach on a presumed royalty rate NOTE 2. EARNINGS PER SHARE derived from the revenues related to the brand name. The fair A reconciliation of the numerators and denominators of value measurements used are considered Level 3 under the basic earnings per share and diluted earnings per share for Fair Value Measurement and Disclosure framework (see Note 9). income from continuing operations for the years ended Intangible assets that have finite useful lives are amortized December 31, 2012, 2011 and 2010, are shown in the over their useful lives (see Note 6). Customer lists and table below: relationships are amortized using primarily the sum-of-the- Year Ended December 31, 2012 2011 2010 months-digits method of amortization over the expected period in which those relationships are expected to Numerators contribute to our future cash flows. The remaining finite-lived Numerator for basic earnings intangible assets are generally amortized using the straight- per share: line method of amortization. Income from continuing operations $7,539 $4,184 $19,400 Advertising Costs We expense advertising costs for Income attributable to advertising products and services or for promoting our noncontrolling interest (275) (240) (315) corporate image as we incur them (see Note 14). Income from continuing Foreign Currency Translation We are exposed to foreign operations attributable to AT&T 7,264 3,944 19,085 Dilutive potential common shares: currency exchange risk through our foreign affiliates and Other share-based payment 12 11 11 equity investments in foreign companies. Our foreign subsidiaries and foreign investments generally report their Numerator for diluted earnings earnings in their local currencies. We translate our share of per share $7,276 $3,955 $19,096 their foreign assets and liabilities at exchange rates in effect Denominators (000,000) at the balance sheet dates. We translate our share of their Denominator for basic earnings revenues and expenses using average rates during the per share: year. The resulting foreign currency translation adjustments Weighted-average number of are recorded as a separate component of accumulated common shares outstanding 5,801 5,928 5,913 other comprehensive income (accumulated OCI) in the Dilutive potential common accompanying consolidated balance sheets. We do not hedge shares: foreign currency translation risk in the net assets and income Stock options 3 4 3 we report from these sources. However, we do hedge a Other share-based payment portion of the foreign currency exchange risk involved in (in shares) 17 18 22 anticipation of highly probable foreign currency-denominated Denominator for diluted transactions, which we explain further in our discussion of our earnings per share 5,821 5,950 5,938 methods of managing our foreign currency risk (see Note 9). Basic earnings per share Employee Separations We established obligations for from continuing operations expected termination benefits provided under existing plans attributable to AT&T $ 1.25 $ 0.66 $ 3.23 to former or inactive employees after employment but Basic earnings per share from before retirement. At December 31, 2012, we had severance discontinued operations accruals of $120 and at December 31, 2011, we had attributable to AT&T — — 0.13 severance accruals of $335. The decline was primarily due Basic earnings per share to payments during the year. attributable to AT&T $ 1.25 $ 0.66 $ 3.36 Diluted earnings per share Pension and Other Postretirement Benefits See Note 11 from continuing operations for a comprehensive discussion of our pension and attributable to AT&T $ 1.25 $ 0.66 $ 3.22 postretirement benefit expense, including a discussion of Diluted earnings per share from the actuarial assumptions and our policy for recognizing discontinued operations the associated gains and losses. attributable to AT&T — — 0.13 Diluted earnings per share attributable to AT&T $ 1.25 $ 0.66 $ 3.35

66 | AT&T Inc. At December 31, 2012, 2011 and 2010, we had issued and The Wireless segment uses our nationwide network to provide outstanding options to purchase approximately 17 million, consumer and business customers with wireless voice and 66 million, and 130 million shares of AT&T common stock. advanced data communications services. This segment The exercise prices of 3 million, 40 million, and 100 million includes our portion of the results from our mobile payment shares in 2012, 2011, and 2010 were above the average joint venture marketed as the Isis Mobile WalletTM (ISIS), which market price of AT&T stock for the respective periods. is accounted for as an equity investment. Accordingly, we did not include these amounts in determining The Wireline segment uses our regional, national and global the dilutive potential common shares. At December 31, 2012, network to provide consumer and business customers with the exercise prices of 14 million vested stock options were landline voice and data communications services, AT&T below market price. U-verse® high-speed broadband, video and voice services and managed networking to business customers. Additionally, NOTE 3. SEGMENT INFORMATION we receive commissions on sales of satellite television Our segments are strategic business units that offer services offered through our agency arrangements. different products and services over various technology The Wireline segment results have been reclassified to platforms and are managed accordingly. We analyze our exclude the operating results of the home monitoring operating segments based on segment income before business moved to our Other segment and to include the income taxes. We make our capital allocation decisions operating results of customer information services, which based on our strategic direction of the business, needs of were previously reported in our Other segment’s results. the network (wireless or wireline) providing services and The Advertising Solutions segment included our directory other assets needed to provide emerging services to our operations, which published Yellow and White Pages directories customers. Actuarial gains and losses from pension and and sold directory advertising and Internet-based advertising other postemployment benefits, interest expense and and local search through May 8, 2012 (see Note 4). other income (expense) – net, are managed only on a total company basis and are, accordingly, reflected only The Other segment includes our portion of the results from in consolidated results. Therefore, these items are not our international equity investments, our 47 percent equity included in each segment’s reportable results. The customers interest in YP Holdings, and costs to support corporate-driven and long-lived assets of our reportable segments are activities and operations. Also included in the Other segment predominantly in the United States. At December 31, 2012, are impacts of corporate-wide decisions for which the we had three reportable segments: (1) Wireless, (2) Wireline individual operating segments are not being evaluated. and (3) Other. Our operating results prior to May 9, 2012, The Other segment results have been reclassified to exclude also included Advertising Solutions, which was a reportable the operating results of customer information services, segment. On May 8, 2012, we completed the sale of our which are now reported in our Wireline segment’s results. Advertising Solutions segment and received a 47 percent equity interest in the new entity YP Holdings LLC (YP Holdings) (see Note 4).

AT&T Inc. | 67 Notes to Consolidated Financial Statements (continued) Dollars in millions except per share amounts

In the following tables, we show how our segment results are reconciled to our consolidated results reported. Segment Results, including a reconciliation to AT&T consolidated results, for 2012, 2011, and 2010 are as follows:

Advertising Consolidated At December 31, 2012 and for the year ended Wireless Wireline Solutions Other Consolidations Results Total segment operating revenues $ 66,763 $ 59,567 $1,049 $ 55 $ — $127,434 Operations and support expenses 43,296 41,207 773 1,024 9,994 96,294 Depreciation and amortization expenses 6,873 11,123 106 41 — 18,143 Total segment operating expenses 50,169 52,330 879 1,065 9,994 114,437 Segment operating income (loss) 16,594 7,237 170 (1,010) (9,994) 12,997 Interest expense — — — — 3,444 3,444 Equity in net income (loss) of affiliates (62) (2) — 816 — 752 Other income (expense) – net — — — — 134 134 Segment income (loss) before income taxes $ 16,532 $ 7,235 $ 170 $ (194) $(13,304) $ 10,439 Segment Assets $132,556 $134,386 $ — $10,728 $ (5,355) $272,315 Investments in and advances to equity method affiliates 41 — — 4,540 — 4,581 Expenditures for additions to long-lived assets 10,795 8,914 13 6 — 19,728

Advertising Consolidated At December 31, 2011 and for the year ended Wireless Wireline Solutions Other Consolidations Results Total segment operating revenues $ 63,215 $ 60,140 $ 3,293 $ 75 $ — $ 126,723 Operations and support expenses 41,282 41,360 5,175 5,031 6,280 99,128 Depreciation and amortization expenses 6,329 11,615 386 47 — 18,377 Total segment operating expenses 47,611 52,975 5,561 5,078 6,280 117,505 Segment operating income (loss) 15,604 7,165 (2,268) (5,003) (6,280) 9,218 Interest expense — — — — 3,535 3,535 Equity in net income (loss) of affiliates (29) — — 813 — 784 Other income (expense) – net — — — — 249 249 Segment income (loss) before income taxes $ 15,575 $ 7,165 $(2,268) $ (4,190) $ (9,566) $ 6,716 Segment Assets $ 127,466 $ 133,904 $ 2,982 $10,530 $ (4,440) $ 270,442 Investments in and advances to equity method affiliates 20 — — 3,698 — 3,718 Expenditures for additions to long-lived assets 9,765 10,449 29 29 — 20,272

Advertising Consolidated For the year ended December 31, 2010 Wireless Wireline Solutions Other Consolidations Results Total segment operating revenues $ 58,501 $ 61,761 $ 3,935 $ 83 $ — $ 124,280 Operations and support expenses 36,185 41,879 2,584 2,159 2,521 85,328 Depreciation and amortization expenses 6,498 12,372 497 12 — 19,379 Total segment operating expenses 42,683 54,251 3,081 2,171 2,521 104,707 Segment operating income (loss) 15,818 7,510 854 (2,088) (2,521) 19,573 Interest expense — — — — 2,994 2,994 Equity in net income of affiliates 9 11 — 742 — 762 Other income (expense) – net — — — — 897 897 Segment income (loss) before income taxes $ 15,827 $ 7,521 $ 854 $ (1,346) $ (4,618) $ 18,238

68 | AT&T Inc. NOTE 4. ACQUISITIONS, DISPOSITIONS AND OTHER ADJUSTMENTS Atlantic Tele-Network On January 22, 2013, we announced an agreement to acquire Atlantic Tele-Network’s (ATNI) U.S. Acquisitions retail wireless operations for $780 in cash, which covers Spectrum Acquisitions During 2012, we acquired $855 of approximately 4.6 million people in primarily rural areas wireless spectrum from various companies. During 2011, we across six states – Georgia, Idaho, Illinois, North Carolina, acquired $33 of wireless spectrum from various companies, Ohio and South Carolina. The acquisition includes spectrum not including the Qualcomm spectrum purchase discussed in the 700 MHz, 850 MHz and 1900 MHz bands and is largely in the following paragraph. complementary to our existing network. The transaction is Qualcomm Spectrum Purchase In December 2011, we subject to regulatory approval and we expect it to close in completed our purchase of spectrum licenses in the Lower the second half of 2013. 700 MHz frequency band from Qualcomm Incorporated for Purchase of Spectrum from Verizon On January 25, 2013, approximately $1,925 in cash. The spectrum covers more than we agreed to acquire spectrum in the 700 MHz B band from 300 million people total nationwide, including 12 MHz of Verizon Wireless for $1,900 in cash and the assignment of Lower 700 MHz D and E block spectrum covering more than AWS spectrum in five markets. This transaction is subject to 70 million people in five of the top 15 metropolitan areas and regulatory approval and we expect it to close in the second 6 MHz of Lower 700 MHz D block spectrum covering more half of 2013. than 230 million people across the rest of the United States. We plan to deploy this spectrum as supplemental downlink Dispositions capacity, using carrier aggregation technology once Advertising Solutions On May 8, 2012, we completed the compatible handsets and network equipment are developed. sale of our Advertising Solutions segment to an affiliate of Cerberus Capital Management, L.P. for approximately $740 in Wireless Properties Transactions In June 2010, we cash after closing adjustments, a $200 note and a 47 percent acquired certain wireless properties, including FCC licenses equity interest in the new entity, YP Holdings. Our operating and network assets, from Verizon Wireless for $2,376 in cash. results include the results of the Advertising Solutions The assets primarily represent former Alltel Wireless assets segment through May 8. and served approximately 1.6 million subscribers in 79 service areas across 18 states. Tender of Telmex Shares In August 2011, the Board of Directors of América Móvil, S.A. de C.V. (América Móvil) Centennial In December 2010, we completed our acquisition approved a tender offer for the remaining outstanding shares accounting of Centennial Communications Corporation of Télefonos de México, S.A. de C.V. (Telmex) that were not (Centennial), which included net assets of $1,518 in goodwill, already owned by América Móvil. We tendered all of our $655 in FCC licenses, and $449 in customer lists and other shares of Telmex for $1,197 of cash. Telmex was accounted intangible assets. for as an equity method investment (see Note 7). Purchase of Wireless Partnership Minority Interest In Sale of Sterling Operations In May 2010, we entered into July 2011, we completed the acquisition of Convergys an agreement to sell our Sterling Commerce Inc. (Sterling) Corporation’s minority interests in the Cincinnati SMSA subsidiary and changed our reporting for Sterling to Limited Partnership and an associated cell tower holding discontinued operations. In August 2010, we completed the company for approximately $320 in cash. sale and received net proceeds of approximately $1,400. Subsequent and Pending Acquisitions During the second quarter of 2010, we accounted for Sterling Subsequent Spectrum Acquisitions On January 24, 2013, as a discontinued operation. We determined that the cash we completed the acquisition of NextWave Wireless Inc. inflows under a transition services agreement and our cash (NextWave), which holds wireless licenses in the Wireless outflows under an enterprise license agreement did not Communication Services and Advanced Wireless Service constitute significant continuing involvement with Sterling’s (AWS) bands. We acquired all the equity and purchased a operations after the sale. portion of the debt of NextWave for $600. In addition, certain of NextWave’s assets were distributed to the holders of its debt in redemption of the remainder of that debt. During January 2013, we have also closed approximately $400 of other wireless spectrum acquisitions from various companies.

AT&T Inc. | 69 Notes to Consolidated Financial Statements (continued) Dollars in millions except per share amounts

The following table includes Sterling’s operating results, which NOTE 5. PROPERTY, PLANT AND EQUIPMENT are presented in the “Income From Discontinued Operations, Property, plant and equipment is summarized as follows at net of tax” line item on the consolidated statements of December 31: income. These operating results were reported in our Other segment through August 27, 2010: Lives (years) 2012 2011 Land — $ 1,689 $ 1,689 Operating revenues $349 Buildings and improvements 10-45 28,939 28,054 Operating expenses 327 Central office equipment1 3-10 86,185 83,824 Operating income 22 Cable, wiring and conduit 10-50 80,338 78,431 Income before income taxes 18 Other equipment 5-20 61,387 53,104 Income tax expense 8 Software 3-5 7,957 10,041 Income from discontinued operations Under construction — 4,412 5,136 during phase-out period 10 270,907 260,279 Gain on disposal of discontinued operations 769 Accumulated depreciation Income from discontinued operations, net of tax $779 and amortization 161,140 153,192 Property, plant and Centennial In August 2010, we sold operations in eight equipment – net $109,767 $107,087 service areas in Louisiana and Mississippi, as required by the 1Includes certain network software. Department of Justice (DOJ), for $273 in cash. Our depreciation expense was $16,933 in 2012, $16,368 in Other Dispositions In 2010, we also sold our domestic 2011 and $16,402 in 2010. Depreciation expense included Japanese outsourcing services company for $109. amortization of software totaling $2,130 in 2012, $2,243 in Other 2011 and $2,515 in 2010. T-Mobile In March 2011, we agreed to acquire from Deutsche Certain facilities and equipment used in operations are leased Telekom AG (Deutsche Telekom) all shares of T-Mobile USA, Inc. under operating or capital leases. Rental expenses under (T-Mobile) for approximately $39,000, subject to certain operating leases were $3,709 for 2012, $3,610 for 2011, and adjustments. In December 2011, in light of opposition to the $3,060 for 2010. At December 31, 2012, the future minimum merger from the DOJ and FCC, we and Deutsche Telekom rental payments under noncancelable operating leases for agreed to terminate the transaction. Pursuant to the purchase the years 2013 through 2017 were $2,706, $2,616, $2,486, agreement, we paid a breakup fee of $3,000, entered into a $2,337, and $2,165, with $11,755 due thereafter. Certain real broadband roaming agreement and transferred certain wireless estate operating leases contain renewal options that may be spectrum with a book value of $962. These agreement exercised. Capital leases are not significant. termination charges were included in “Selling, general and administrative” expenses in our Other segment.

NOTE 6. GOODWILL AND OTHER INTANGIBLE ASSETS Changes in the carrying amounts of goodwill, by segment (which is the same as the reporting unit for Wireless, Wireline and Advertising Solutions), for the years ended December 31, 2012 and 2011, were as follows:

Advertising Wireless Wireline Solutions Other Total Balance as of January 1, 2011 $ 35,755 $ 31,670 $ 5,731 $ 445 $ 73,601 Goodwill acquired 5 — — — 5 Impairments — — (2,745) — (2,745) Other (5) 1,968 (1,927) (55) (19) Balance as of December 31, 2011 35,755 33,638 1,059 390 70,842 Goodwill acquired 13 5 — — 18 Other 35 327 (1,059) (390) (1,087) Balance as of December 31, 2012 $35,803 $33,970 $ — $ — $69,773

In 2011, we recorded a $2,745 impairment in the Advertising media platform for those advertising operations. Changes to Solutions segment, triggered by declining revenues in our goodwill during 2012 primarily resulted from the sale of the directory business and the directory industry as a whole. Advertising Solutions segment (see Note 4). Changes in Changes to goodwill during 2011 also included a $1,927 goodwill during 2012 also included a reclassification of reclassification of goodwill from the Advertising Solutions goodwill due to segment reclassification to better align segment to the Wireline segment to align certain advertising goodwill with operations. operations with our U-verse business, which operates the

70 | AT&T Inc. Our other intangible assets are summarized as follows: December 31, 2012 December 31, 2011 Gross Carrying Accumulated Gross Carrying Accumulated Other Intangible Assets Amount Amortization Amount Amortization Amortized intangible assets: Customer lists and relationships: AT&T Mobility LLC $ 6,760 $ 6,335 $ 6,845 $ 5,906 BellSouth Corporation 5,825 4,994 9,205 7,686 AT&T Corp. 2,490 2,356 2,483 2,205 Other 351 350 350 329 Subtotal 15,426 14,035 18,883 16,126 Other 304 174 485 258 Total $15,730 $14,209 $19,368 $16,384 Indefinite-lived intangible assets not subject to amortization: Licenses $52,352 $51,374 Trade names 4,902 4,985 Total $57,254 $56,359

Amortized intangible assets are definite-life assets, and as NOTE 7. EQUITY METHOD INVESTMENTS such, we record amortization expense based on a method Investments in partnerships, joint ventures and less than that most appropriately reflects our expected cash flows majority-owned subsidiaries in which we have significant from these assets. Intangible assets that have finite useful influence are accounted for under the equity method. lives are amortized over their useful lives, a weighted- average of 8.5 years (8.4 years for customer lists and Our investments in equity affiliates primarily include relationships and 12.1 years for other). Customer lists and international equity investments, and our 47 percent relationships are amortized using primarily the sum-of-the- equity interest in YP Holdings. As of December 31, 2012, months-digits method of amortization over the expected our investments in equity affiliates included a 9.55 percent period in which those relationships are expected to interest in América Móvil, primarily a wireless provider contribute to our future cash flows. The remaining finite- in Mexico with telecommunications investments in the lived intangible assets are generally amortized using the United States and Latin America. We are a member of straight-line method of amortization. Amortization expense a consortium that holds all of the class AA shares of for definite-life intangible assets was $1,210 for the year América Móvil stock, representing voting control of the ended December 31, 2012, $2,009 for the year ended company. Another member of the consortium has the right December 31, 2011, and $2,977 for the year ended to appoint a majority of the directors of América Móvil. December 31, 2010. Amortization expense is estimated to be $667 in 2013, $348 in 2014, $218 in 2015, $123 in 2016, Telmex Transaction During 2011, the Board of Directors and $57 in 2017. In 2012, we wrote off approximately $191 of América Móvil approved and completed a tender offer for in fully amortized intangible assets (primarily patents) and the remaining outstanding shares of Telmex that were not $3,187 of customer lists due to the sale of our Advertising already owned by América Móvil. In conjunction with the Solutions segment (see Note 4). We review other amortizing tender of our shares, we have recorded our portion of intangible assets for impairment whenever events or América Móvil’s resulting equity adjustments. circumstances indicate that the carrying amount may not Telmex Internacional On June 11, 2010, as part of a be recoverable over the remaining life of the asset or tender offer from América Móvil, we exchanged all our asset group. shares in Telmex Internacional, S.A.B. de C.V. (Telmex We review indefinite-lived intangible assets for impairment Internacional) for América Móvil L shares at the offered annually (see Note 1). Licenses include wireless FCC licenses exchange rate of 0.373, which resulted in a pretax gain of $52,318 at December 31, 2012 and $51,358 at of $658. The exchange was accounted for at fair value. December 31, 2011, that provide us with the exclusive In addition, we paid $202 to purchase additional shares right to utilize certain radio frequency spectrum to provide of América Móvil L shares to maintain our ownership wireless communications services. percentage at a pretransaction level. We recorded a $165 impairment in 2011 and an $85 The following table is a reconciliation of our investments in impairment in 2010 for a trade name. equity affiliates as presented on our consolidated balance sheets:

AT&T Inc. | 71 Notes to Consolidated Financial Statements (continued) Dollars in millions except per share amounts

2012 2011 Debt maturing within one year consisted of the following at December 31: Beginning of year $3,718 $4,515 Additional investments 405 35 2012 2011 Equity in net income of affiliates 752 784 Current maturities of long-term debt $3,485 $3,453 Dividends received (137) (161) Bank borrowings1 1 — Dispositions — (660) Total $3,486 $3,453 Currency translation adjustments 95 (515) 1 América Móvil equity adjustments (260) (171) Outstanding balance of short-term credit facility of a foreign subsidiary. Other adjustments 8 (109) Debt Refinancing End of year $4,581 $3,718 During 2012, we received net proceeds of $13,486, from the issuance of $13,569 in long-term debt with an average Undistributed earnings from equity affiliates were $6,375 and weighted maturity of approximately 12 years and an average $5,760 at December 31, 2012 and 2011. interest rate of 2.54%. We redeemed $8,083 in borrowing, At December 31, 2012 the fair value of our investment in including $6,200 in early redemptions, with an average América Móvil, based on the equivalent value of América interest rate of 5.58%. Móvil L shares was $8,380. Debt Exchange During 2012, we completed a private debt exchange covering NOTE 8. DEBT $4,099 of various notes with stated rates of 6.00% to 8.75% Long-term debt of AT&T and its subsidiaries, including interest for $1,956 in new 4.3% AT&T Inc. global notes due 2042 and rates and maturities, is summarized as follows at December 31: $3,044 in new 4.35% AT&T Inc. global notes due 2045 plus a $650 cash payment. 2012 2011 Notes and debentures As of December 31, 2012 and 2011, we were in compliance Interest Rates Maturities1 with all covenants and conditions of instruments governing 0.80% – 2.99% 2012 – 2022 $13,969 $ 5,500 our debt. Substantially all of our outstanding long-term debt 3.00% – 4.99% 2012 – 2045 14,590 8,659 is unsecured. Maturities of outstanding long-term notes and 5.00% – 6.99% 2012 – 2095 35,226 41,390 debentures, as of December 31, 2012, and the corresponding 7.00% – 9.10% 2012 – 2097 7,059 8,471 weighted-average interest rate scheduled for repayment are Other 2 3 as follows: Fair value of interest rate swaps There- recorded in debt 267 445 2013 2014 2015 2016 2017 after 71,113 64,468 Debt Unamortized (discount) premium – net (1,535) 46 repayments1 $3,475 $3,788 $6,514 $4,923 $4,757 $47,578 Total notes and debentures 69,578 64,514 Weighted- Capitalized leases 265 239 average Total long-term debt, including interest rate 4.9% 5.2% 3.2% 3.7% 2.5% 5.5% current maturities 69,843 64,753 1Debt repayments assume putable debt is redeemed by the holders at the next Current maturities of long-term debt (3,485) (3,453) opportunity. Total long-term debt $66,358 $61,300 Credit Facilities 1Maturities assume putable debt is redeemed by the holders at the next opportunity. On December 11, 2012, we amended and extended for an additional one-year term our existing $5,000, four-year Current maturities of long-term debt include debt that may revolving credit agreement (Four-Year Agreement) with a be put back to us by the holders in 2013. We have $1,000 of syndicate of banks until December 2016. We also entered annual put reset securities that may be put each April until into a new $3,000, five-year revolving credit agreement maturity in 2021. If the holders do not require us to (Five-Year Agreement), with a syndicate of banks, to replace repurchase the securities, the interest rate will be reset based our expiring 364-day revolving credit agreement. In the event on current market conditions. Likewise, we have an accreting advances are made under either agreement, those advances zero-coupon note that may be redeemed each May, until would be used for general corporate purposes. Advances maturity in 2022. If the zero-coupon note (issued for principal are not conditioned on the absence of a material adverse of $500 in 2007) is held to maturity, the redemption amount change. All advances must be repaid no later than the date will be $1,030. on which lenders are no longer obligated to make any advances under each agreement. Under each agreement, we can terminate, in whole or in part, amounts committed by the lenders in excess of any outstanding advances; however,

72 | AT&T Inc. we cannot reinstate any such terminated commitments. • We fail to pay when due other debt of $400 or more that At December 31, 2012, we had no advances outstanding results in acceleration of that debt (commonly referred under either agreement and were in compliance with all to as cross-acceleration) or a creditor commences covenants under each agreement. enforcement proceedings within a specified period after a money judgment of $400 or more has become final. Advances under both agreements would bear interest, at • A person acquires beneficial ownership of more than AT&T’s option, either: 50% of AT&T common shares or more than a majority • at a variable annual rate equal to (1) the highest of: of AT&T’s directors change in any 24-month period other (a) the base (or prime) rate of the bank affiliate of than as elected by the remaining directors (commonly Citibank, N.A. which is serving as administrative agent referred to as a change in control). under the Agreement, (b) 0.50% per annum above the • Material breaches of representations or warranties in the Federal funds rate, and (c) the London Interbank Offered agreement. Rate (LIBOR) applicable to U.S. dollars for a period of • We fail to comply with the negative pledge or one month plus 1.00% per annum, plus (2) an applicable debt-to-EBITDA ratio covenants under the agreement. margin, as set forth in the Agreement (Applicable • We fail to comply with other covenants under the Margin); or agreement for a specified period after notice. • at a rate equal to: (i) the LIBOR for a period of one, • We fail to make certain minimum funding payments two, three or six months, as applicable, plus (ii) the under the Employee Retirement Income Security Act of Applicable Margin. 1974, as amended (ERISA). The Applicable Margin for both agreements will equal 0.565% • Our bankruptcy or insolvency. per annum if our unsecured long-term debt is rated at least Both the Five-Year Agreement and the Four-Year Agreement A+ by Standard & Poor’s (S&P) or Fitch, Inc. (Fitch) or A1 by contain provisions permitting subsidiaries to be added as Moody’s Investors Service (Moody’s). The Applicable Margin additional borrowers, with or without a guarantee by AT&T Inc. will be 0.680% per annum if our unsecured long-term debt The terms of the guarantee are set forth in the agreements. ratings are A or A2 and will be 0.910% per annum in the event our unsecured long-term debt ratings are A- and A3 Four-Year Agreement (or below). In the event that AT&T’s unsecured long-term The obligations of the lenders under the Four-Year Agreement debt ratings are split by S&P, Moody’s and Fitch, then the to provide advances will terminate on December 11, 2016, Applicable Margin will be determined by the highest of the unless prior to that date either: (i) AT&T and, if applicable, three ratings, except that in the event the lowest of such a Co-Borrower, reduces to $0 the commitments of the ratings is more than one level below the highest of the lenders under the Agreement or (ii) certain events of default ratings then the Applicable Margin will be determined based occur. The Agreement also provides that AT&T and lenders on the level that is one level above the lowest of such ratings. representing more than 50% of the facility amount may agree to extend their commitments under the Four-Year Under each agreement AT&T will pay a facility fee of 0.060%, Agreement for two additional one-year periods beyond 0.070% or 0.090% per annum, depending on AT&T’s credit the December 11, 2016 termination date, under certain rating, of the amount of lender commitments. circumstances. We also can request the lenders to further Both agreements contain a negative pledge covenant, which increase their commitments (i.e., raise the available credit) requires that, if at any time AT&T or a subsidiary pledges up to an additional $2,000 provided no event of default assets or otherwise permits a lien on its properties, advances has occurred. under the agreement will be ratably secured, subject to Five-Year Agreement specified exceptions. Both agreements also contain a financial The obligations of the lenders under the Five-Year Agreement ratio covenant that provides that AT&T will maintain, as of to provide advances will terminate on December 11, 2017, the last day of each fiscal quarter, a debt-to-EBITDA (earnings unless prior to that date either: (i) AT&T, and if applicable, a before interest, income taxes, depreciation and amortization, Co-Borrower, reduce to $0 the commitments of the lenders, and other modifications described in the agreements) ratio or (ii) certain events of default occur. We and lenders of not more than 3.0 to 1, for the four quarters then ended. representing more than 50% of the facility amount may agree Defaults under both agreements, which would permit the to extend their commitments for two one-year periods lenders to accelerate required repayment and which would beyond the December 11, 2017, termination date, under increase the Applicable Margin by 2.00% per annum, include: certain circumstances. We also can request the lenders to further increase their commitments (i.e., raise the available • We fail to pay principal or interest, or other amounts credit) up to an additional $2,000 provided no event of under the agreement beyond any grace period. default has occurred.

AT&T Inc. | 73 Notes to Consolidated Financial Statements (continued) Dollars in millions except per share amounts

NOTE 9. FAIR VALUE MEASUREMENTS AND DISCLOSURE The Fair Value Measurement and Disclosure framework provides a three-tiered fair value hierarchy that gives highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (Level 1 measurements) and the lowest priority to unobservable inputs (Level 3 measurements). The three levels of the fair value hierarchy are described below:

Level 1 Inputs to the valuation methodology are unadjusted quoted prices for identical assets or liabilities in active markets that we have the ability to access. Level 2 Inputs to the valuation methodology include: • Quoted prices for similar assets and liabilities in active markets. • Quoted prices for identical or similar assets or liabilities in inactive markets. • Inputs other than quoted market prices that are observable for the asset or liability. • Inputs that are derived principally from or corroborated by observable market data by correlation or other means. Level 3 Inputs to the valuation methodology are unobservable and significant to the fair value measurement. • Fair value is often based on developed models in which there are few, if any, external observations.

The fair value measurements level of an asset or liability within Investment Securities the fair value hierarchy is based on the lowest level of any Our investment securities include equities, fixed income input that is significant to the fair value measurement. Valuation bonds and other securities. A substantial portion of the fair techniques used should maximize the use of observable inputs values of our available-for-sale securities were estimated and minimize the use of unobservable inputs. based on quoted market prices. Investments in securities not traded on a national securities exchange are valued using The valuation methodologies described above may produce a pricing models, quoted prices of securities with similar fair value calculation that may not be indicative of future net characteristics or discounted cash flows. Realized gains and realizable value or reflective of future fair values. We believe losses on securities are included in “Other income (expense) our valuation methods are appropriate and consistent with – net” in the consolidated statements of income using the other market participants. The use of different methodologies specific identification method. Unrealized gains and losses, or assumptions to determine the fair value of certain financial net of tax, on available-for-sale securities are recorded in instruments could result in a different fair value measurement accumulated OCI. Unrealized losses that are considered other at the reporting date. There have been no changes in the than temporary are recorded in “Other income (expense) – methodologies used since December 31, 2011. net” with the corresponding reduction to the carrying basis Long-Term Debt and Other Financial Instruments of the investment. Fixed income investments of $86 have The carrying amounts and estimated fair values of our maturities of less than one year, $280 within one to three long-term debt, including current maturities and other years, $210 within three to five years, and $261 for five or financial instruments, are summarized as follows: more years, which approximate fair value.

December 31, 2012 December 31, 2011 Our short-term investments (including money market Carrying Fair Carrying Fair securities) and customer deposits are recorded at amortized Amount Value Amount Value cost, and the respective carrying amounts approximate Notes and debentures $69,578 $81,310 $64,514 $73,738 fair values. Bank borrowings 1 1 — — Our investment securities maturing within one year are Investment securities 2,218 2,218 2,092 2,092 recorded in “Other current assets,” and instruments with The carrying value of debt with an original maturity of less maturities of more than one year are recorded in “Other than one year approximates market value. The fair value Assets” on the consolidated balance sheets. measurement used for notes and debentures are considered Level 2.

74 | AT&T Inc. Following is the fair value leveling for available-for-sale securities and derivatives as of December 31, 2012, and December 31, 2011:

December 31, 2012 Level 1 Level 2 Level 3 Total Available-for-Sale Securities Domestic equities $873 $ — $ — $ 873 International equities 469 — — 469 Fixed income bonds — 837 — 837 Asset Derivatives1 Interest rate swaps — 287 — 287 Cross-currency swaps — 752 — 752 Foreign exchange contracts — 1 — 1 Liability Derivatives1 Cross-currency swaps — (672) — (672)

December 31, 2011 Level 1 Level 2 Level 3 Total Available-for-Sale Securities Domestic equities $ 947 $ — $ — $ 947 International equities 495 — — 495 Fixed income bonds — 562 — 562 Asset Derivatives1 Interest rate swaps — 521 — 521 Cross-currency swaps — 144 — 144 Foreign exchange contracts — 2 — 2 Liability Derivatives1 Cross-currency swaps — (820) — (820) Interest rate locks — (173) — (173) Foreign exchange contracts — (9) — (9) 1Derivatives designated as hedging instruments are reflected as other assets, other liabilities and, for a portion of interest rate swaps, other current assets.

Derivative Financial Instruments Fair Value Hedging We designate our fixed-to-floating We employ derivatives to manage certain market risks, interest rate swaps as fair value hedges. The purpose of primarily interest rate risk and foreign currency exchange risk. these swaps is to manage interest rate risk by managing This includes the use of interest rate swaps, interest rate our mix of fixed-rate and floating-rate debt. These swaps locks, foreign exchange forward contracts and combined involve the receipt of fixed-rate amounts for floating interest interest rate foreign exchange contracts (cross-currency rate payments over the life of the swaps without exchange swaps). We do not use derivatives for trading or speculative of the underlying principal amount. Accrued and realized purposes. We record derivatives on our consolidated balance gains or losses from interest rate swaps impact interest sheets at fair value that is derived from observable market expense on the consolidated statements of income. data, including yield curves and foreign exchange rates (all Unrealized gains on interest rate swaps are recorded at fair of our derivatives are Level 2). Cash flows associated with market value as assets, and unrealized losses on interest derivative instruments are presented in the same category rate swaps are recorded at fair market value as liabilities. on the consolidated statements of cash flows as the item Changes in the fair value of the interest rate swaps offset being hedged. changes in the fair value of the fixed-rate notes payable they hedge due to changes in the designated benchmark The majority of our derivatives are designated either as a interest rate and are recognized in interest expense. hedge of the fair value of a recognized asset or liability or Gains or losses realized upon early termination of our fair of an unrecognized firm commitment (fair value hedge), or value hedges are recognized in interest expense. In the as a hedge of a forecasted transaction or of the variability years ended December 31, 2012, and December 31, 2011, of cash flows to be received or paid related to a recognized no ineffectiveness was measured. asset or liability (cash flow hedge).

AT&T Inc. | 75 Notes to Consolidated Financial Statements (continued) Dollars in millions except per share amounts

Cash Flow Hedging Unrealized gains on derivatives Collateral and Credit-Risk Contingency We have entered designated as cash flow hedges are recorded at fair value into agreements with our derivative counterparties establishing as assets, and unrealized losses on derivatives designated collateral thresholds based on respective credit ratings and as cash flow hedges are recorded at fair value as liabilities, netting agreements. At December 31, 2012, we had posted both for the period they are outstanding. For derivative collateral of $22 (a deposit asset) and held collateral of $543 instruments designated as cash flow hedges, the effective (a receipt liability). Under the agreements, if our credit rating portion is reported as a component of accumulated OCI until had been downgraded one rating level by Moody’s and Fitch reclassified into interest expense in the same period the before the final collateral exchange in December, we would hedged transaction affects earnings. The gain or loss on the have been required to post additional collateral of $120. ineffective portion is recognized as other income or expense At December 31, 2011, we had posted collateral of $98 and in each period. had no held collateral. We do not offset the fair value of collateral, whether the right to reclaim cash collateral (a We designate our cross-currency swaps as cash flow hedges. receivable) or the obligation to return cash collateral (a We have entered into multiple cross-currency swaps to hedge payable), against the fair value of the derivative instruments. our exposure to variability in expected future cash flows that are attributable to foreign currency risk generated from the Following is the notional amount of our outstanding issuance of our Euro and British pound sterling denominated derivative positions at December 31: debt. These agreements include initial and final exchanges 2012 2011 of principal from fixed foreign denominations to fixed U.S. denominated amounts, to be exchanged at a specified rate, Interest rate swaps $ 3,000 $ 8,800 which was determined by the market spot rate upon Cross-currency swaps 12,071 7,502 issuance. They also include an interest rate swap of a fixed Interest rate locks — 800 Foreign exchange contracts 51 207 foreign-denominated rate to a fixed U.S. denominated interest rate. We evaluate the effectiveness of our cross-currency Total $15,122 $17,309 swaps each quarter. In the years ended December 31, 2012, and December 31, 2011, no ineffectiveness was measured. Following is the related hedged items affecting our financial position and performance: Periodically, we enter into and designate interest rate locks to partially hedge the risk of changes in interest payments Effect of Derivatives on the attributable to increases in the benchmark interest rate Consolidated Statements of Income during the period leading up to the probable issuance of Fair Value Hedging Relationships fixed-rate debt. We designate our interest rate locks as cash For the years ended December 31, 2012 2011 2010 flow hedges. Gains and losses when we settle our interest Interest rate swaps (Interest expense): rate locks are amortized into income over the life of the Gain (Loss) on interest rate swaps $(179) $ 10 $ 125 related debt, except where a material amount is deemed to Gain (Loss) on long-term debt 179 (10) (125) be ineffective, which would be immediately reclassified to consolidated other income/expense. Over the next 12 months, In addition, the net swap settlements that accrued and we expect to reclassify $45 from accumulated OCI to interest settled in the periods above were offset against interest expense due to the amortization of net losses on historical expense. interest rate locks. In February 2012, we utilized $800 notional Cash Flow Hedging Relationships value of interest rate locks related to our February 2012 For the year ended December 31, 2012 2011 2010 debt issuance. Cross-currency swaps: We hedge a portion of the exchange risk involved in Gain (Loss) recognized in anticipation of highly probable foreign currency-denominated accumulated OCI $432 $(219) $(201) transactions. In anticipation of these transactions, we often Interest rate locks: enter into foreign exchange contracts to provide currency at Gain (Loss) recognized a fixed rate. Some of these instruments are designated as in accumulated OCI — (167) (320) cash flow hedges while others remain nondesignated, largely Interest income (expense) reclassified based on size and duration. Gains and losses at the time we from accumulated OCI into income (43) (23) (19) settle or take delivery on our designated foreign exchange Foreign exchange contracts: contracts are amortized into income in the same period the Gain (Loss) recognized in hedged transaction affects earnings, except where an amount accumulated OCI 5 (10) 5 is deemed to be ineffective, which would be immediately reclassified to other income (expense) on the consolidated The balance of the unrealized derivative gain (loss) in income statement. In the years ended December 31, 2012, accumulated OCI was $(110) at December 31, 2012, $(421) and December 31, 2011, no ineffectiveness was measured. at December 31, 2011, and $(180) at December 31, 2010.

76 | AT&T Inc. NOTE 10. INCOME TAXES A reconciliation of the change in our UTB balance from January 1 to December 31 for 2012 and 2011 is as follows: Significant components of our deferred tax liabilities (assets) are as follows at December 31: Federal, State and Foreign Tax 2012 2011 Balance at beginning of year $ 4,541 $ 4,360 2012 2011 Increases for tax positions Depreciation and amortization $ 41,411 $ 39,367 related to the current year 791 217 Intangibles (nonamortizable) 1,874 1,897 Increases for tax positions Employee benefits (13,350) (14,950) related to prior years 991 848 Net operating loss and other carryforwards (2,167) (1,502) Decreases for tax positions Other – net (1,199) (1,451) related to prior years (1,426) (1,066) Subtotal 26,569 23,361 Lapse of statute of limitations (29) — Deferred tax assets valuation allowance 886 917 Settlements (75) 182 Net deferred tax liabilities $ 27,455 $ 24,278 Balance at end of year 4,793 4,541 Net long-term deferred tax liabilities $ 28,491 $ 25,748 Accrued interest and penalties 977 1,312 Less: Net current deferred tax assets (1,036) (1,470) Gross unrecognized income tax benefits 5,770 5,853 Less: Deferred federal and state Net deferred tax liabilities $ 27,455 $ 24,278 income tax benefits (610) (797) Less: Tax attributable to timing At December 31, 2012, we had combined net operating and items included above (2,448) (2,331) capital loss carryforwards (tax effected) for federal income tax purposes of $780 and for state and foreign income tax Total UTB that, if recognized, would purposes of $956, expiring through 2031. Additionally, we impact the effective income tax rate as of the end of the year $ 2,712 $ 2,725 had state credit carryforwards of $431, expiring primarily through 2032. Periodically we make deposits to taxing jurisdictions which We recognize a valuation allowance if, based on the weight reduce our UTB balance but are not included in the of available evidence, it is more likely than not that some reconciliation above. The amount of deposits that reduced portion, or all, of a deferred tax asset will not be realized. our UTB balance was $2,372 at December 31, 2012, and Our valuation allowances at December 31, 2012 and 2011, $2,508 at December 31, 2011. relate primarily to state net operating loss and state credit Accrued interest and penalties included in UTBs were $977 as carryforwards. of December 31, 2012, and $1,312 as of December 31, 2011. We recognize the financial statement effects of a tax return We record interest and penalties related to federal, state and position when it is more likely than not, based on the foreign UTBs in income tax expense. The net interest and technical merits, that the position will ultimately be penalty expense (benefit) included in income tax expense was sustained. For tax positions that meet this recognition $(74) for 2012, $(65) for 2011, and $(194) for 2010. threshold, we apply our judgment, taking into account We file income tax returns in the U.S. federal jurisdiction applicable tax laws and our experience in managing tax and various state, local and foreign jurisdictions. As a large audits and relevant GAAP, to determine the amount of tax taxpayer, our income tax returns are regularly audited by the benefits to recognize in our financial statements. For each Internal Revenue Service (IRS) and other taxing authorities. position, the difference between the benefit realized on The IRS has completed field examinations of our tax returns our tax return and the benefit reflected in our financial through 2008. All audit periods prior to 2003 are closed for statements is recorded on our consolidated balance sheets federal examination purposes. We are engaged with the IRS as an unrecognized tax benefit (UTB). We update our UTBs Appeals Division in resolving issues related to our 2003 at each financial statement date to reflect the impacts of through 2008 returns; we are unable to estimate the impact audit settlements and other resolution of audit issues, the resolution of these issues may have on our UTBs. expiration of statutes of limitation, developments in tax law and ongoing discussions with taxing authorities.

AT&T Inc. | 77 Notes to Consolidated Financial Statements (continued) Dollars in millions except per share amounts

The components of income tax (benefit) expense are as follows: NOTE 11. PENSION AND POSTRETIREMENT BENEFITS 2012 2011 2010 Pension Benefits and Postretirement Benefits Federal: Substantially all of our U.S. employees are covered by one Current $ 451 $ (420) $ 307 of our noncontributory pension and death benefit plans. Deferred – net 2,256 2,555 (2,105) Our newly hired management employees participate in a cash 2,707 2,135 (1,798) balance pension program, while longer-service management State, local and foreign: employees participate in a pension program that has a Current 702 23 141 traditional pension formula (i.e., a stated percentage of Deferred – net (509) 374 495 employees’ adjusted career income) and a frozen cash 193 397 636 balance, or a program that has a defined lump sum formula. Nonmanagement employees’ pension benefits are generally Total $2,900 $2,532 $(1,162) calculated using one of two formulas: benefits are based on a flat dollar amount per year according to job classification or A reconciliation of income tax expense (benefit) and the are calculated under a cash balance plan that is based on an amount computed by applying the statutory federal income initial cash balance amount and a negotiated annual pension tax rate (35%) to income from continuing operations before band and interest credits. Most nonmanagement employees income taxes is as follows: can elect to receive their pension benefits in either a lump 2012 2011 2010 sum payment or an annuity. Taxes computed at federal We also provide a variety of medical, dental and life statutory rate $3,654 $2,351 $ 6,383 insurance benefits to certain retired employees under various Increases (decreases) in plans and accrue actuarially determined postretirement income taxes resulting from: benefit costs as active employees earn these benefits. State and local income taxes – net of federal income During 2012, approximately 90,000 collectively bargained tax benefit 85 210 441 employees ratified new agreements. For the vast majority of Goodwill Impairment — 961 — covered employees, the agreements provided for a pension Healthcare Reform Legislation — — 917 band increase of 1 percent for each year of the agreement. IRS Settlement – 2008 These agreements also provide for continued health care Wireless Restructuring — — (8,300) coverage with a modest increase to employee costs over the Other – net (839) (990) (603) agreement term. There were also modest increases to retiree Total $2,900 $2,532 $(1,162) costs for continued health care coverage for retirees. Effective Tax Rate 27.8% 37.7% (6.4)% During 2012, we transferred the funding of the payment of postretirement death benefits not already in the Voluntary In March 2010, comprehensive healthcare reform legislation, Employee Benefit Association (VEBA) trust from the pension which included a change in the tax treatment related to trust to the postretirement VEBA trust. Medicare Part D subsidies, was enacted. We recorded a $995 charge to income tax expense in our consolidated statement In 2011, we announced that beginning in 2013, as a result of of income during the first quarter of 2010 and increased our federal healthcare reform, we would begin contracting with a deferred income taxes liability balance to reflect the impact Medicare Part D plan on a group basis to provide prescription of this change. drug benefits to certain Medicare eligible retirees. This plan change resulted in the adoption of plan amendments during In September 2010, we reached a settlement with the IRS the fourth quarter of 2011, and will allow the Company to be on tax basis calculations related to a 2008 restructuring of eligible for greater Medicare Part D plan subsidies over time. our wireless operations. The IRS settlement resolved the uncertainty regarding the amount and timing of amortization Obligations and Funded Status deductions related to certain of our wireless assets. For defined benefit pension plans, the benefit obligation is We recorded an $8,300 reduction to income tax expense the “projected benefit obligation,” the actuarial present value, in our consolidated statement of income during the third as of our December 31 measurement date, of all benefits quarter of 2010 and corresponding decreases of $6,760 to attributed by the pension benefit formula to employee our net noncurrent deferred income tax liabilities and $1,540 service rendered to that date. The amount of benefit to be to other net tax liabilities to reflect the tax benefits of the paid depends on a number of future events incorporated into settlement. The IRS settlement resulted in a reduction to our the pension benefit formula, including estimates of the UTBs for tax positions related to prior years of $1,057, which average life of employees/survivors and average years of also reduced the total amount of UTBs that, if recognized, service rendered. It is measured based on assumptions would impact the effective tax rate. concerning future interest rates and future employee compensation levels.

78 | AT&T Inc. For postretirement benefit plans, the benefit obligation is The following table presents this reconciliation and shows the the “accumulated postretirement benefit obligation,” the change in the projected benefit obligation for the years actuarial present value as of a date of all future benefits ended December 31: attributed under the terms of the postretirement benefit plan to employee service rendered to the valuation date.

Pension Benefits Postretirement Benefits 2012 2011 2012 2011 Benefit obligation at beginning of year $56,110 $53,917 $34,953 $36,638 Service cost – benefits earned during the period 1,216 1,186 336 362 Interest cost on projected benefit obligation 2,800 2,958 1,725 2,051 Amendments (905) — (2,768) (1,830) Actuarial loss 6,707 2,972 4,844 478 Special termination benefits 12 27 5 4 Benefits paid (5,729) (4,950) (2,608) (2,750) Transfer for sale of Advertising Solutions segment (149) — (207) — Plan transfers (1,151) — 1,151 — Benefit obligation at end of year $58,911 $56,110 $37,431 $34,953

The following table presents the change in the value of plan assets for the years ended December 31 and the plans’ funded status at December 31:

Pension Benefits Postretirement Benefits 2012 2011 2012 2011 Fair value of plan assets at beginning of year $ 45,907 $ 47,621 $ 9,890 $ 12,747 Actual return on plan assets 5,041 2,238 1,266 (224) Benefits paid1 (5,729) (4,950) (1,842) (2,633) Contributions 3 1,000 — — Transfer for sale of Advertising Solutions segment (165) — (19) — Other 3 (2) — — Fair value of plan assets at end of year 45,060 45,907 9,295 9,890 Unfunded status at end of year2 $(13,851) $(10,203) $(28,136) $(25,063) 1At our discretion, certain postretirement benefits may be paid from AT&T cash accounts, which does not reduce VEBA assets. Future benefit payments may be made from VEBA trusts and thus reduce those asset balances. 2Funded status is not indicative of our ability to pay ongoing pension benefits or of our obligation to fund retirement trusts. Required pension funding is determined in accordance with ERISA regulations.

Amounts recognized on our consolidated balance sheets at Prior service credits included in our accumulated OCI that December 31 are listed below: have not yet been recognized in net periodic benefit cost were $1,035 for pension and $7,688 for postretirement Pension Benefits Postretirement Benefits benefits at December 31, 2012, and $149 for pension and 2012 2011 2012 2011 $5,896 for postretirement benefits at December 31, 2011. Current portion of employee benefit The accumulated benefit obligation for our pension plans obligation1 $ — $ — $ (2,116) $ (2,288) represents the actuarial present value of benefits based on Employee benefit employee service and compensation as of a certain date and obligation2 (13,851) (10,203) (26,020) (22,775) does not include an assumption about future compensation Net amount levels. The accumulated benefit obligation for our pension plans was $57,010 at December 31, 2012, and $53,640 at recognized $(13,851) $(10,203) $(28,136) $(25,063) December 31, 2011. 1Included in “Accounts payable and accrued liabilities.” 2Included in “Postemployment benefit obligation.”

AT&T Inc. | 79 Notes to Consolidated Financial Statements (continued) Dollars in millions except per share amounts

Net Periodic Benefit Cost and Other Amounts and capital expenditures, providing a small reduction in the net Recognized in Other Comprehensive Income expense recorded. Our combined net pension and postretirement cost recognized The following tables present the components of net periodic in our consolidated statements of income was $10,257, $7,288 benefit obligation cost and other changes in plan assets and and $3,750 for the years ended December 31, 2012, 2011 and benefit obligations recognized in OCI: 2010. A portion of pension and postretirement benefit costs is capitalized as part of the benefit load on internal construction

Net Periodic Benefit Cost

Pension Benefits Postretirement Benefits 2012 2011 2010 2012 2011 2010 Service cost – benefits earned during the period $ 1,216 $ 1,186 $ 1,075 $ 336 $ 362 $ 348 Interest cost on projected benefit obligation 2,800 2,958 3,150 1,725 2,051 2,257 Expected return on assets (3,520) (3,690) (3,775) (811) (1,040) (943) Amortization of prior service cost (credit) (15) (15) (16) (927) (694) (624) Actuarial (gain) loss 5,206 4,498 1,768 4,247 1,672 510 Net pension and postretirement cost1 $ 5,687 $ 4,937 $ 2,202 $4,570 $ 2,351 $1,548 1During 2012, 2011 and 2010, the Medicare Prescription Drug, Improvement, and Modernization Act of 2003 reduced postretirement benefit cost by $142, $280 and $237. This effect is included in several line items above. Other Changes in Plan Assets and Benefit Obligations Recognized in Other Comprehensive Income

Pension Benefits Postretirement Benefits 2012 2011 2010 2012 2011 2010 Prior service (cost) credit $559 $ — $ — $1,686 $1,134 $ 459 Amortization of prior service cost (credit) (10) (10) (10) (575) (430) (388) Total recognized in other comprehensive (income) loss (net of tax) $549 $(10) $(10) $1,111 $ 704 $ 71

The estimated prior service credits that will be amortized from Uncertainty in the securities markets and U.S. economy accumulated OCI into net periodic benefit cost over the next could result in investment returns less than those assumed. fiscal year is $94 for pension and $1,049 for postretirement Should the securities markets decline or medical and benefits. prescription drug costs increase at a rate greater than assumed, we would expect increasing annual combined net Assumptions pension and postretirement costs for the next several years. In determining the projected benefit obligation and the net Should actual experience differ from actuarial assumptions, pension and postemployment benefit cost, we used the the projected pension benefit obligation and net pension following significant weighted-average assumptions: cost and accumulated postretirement benefit obligation 2012 2011 2010 and postretirement benefit cost would be affected in Discount rate for determining future years. projected benefit obligation Our expected return on plan assets is calculated using the at December 31 4.30% 5.30% 5.80% actual fair value of plan assets. We recognize actual gains Discount rate in effect for and losses on pension and postretirement plan assets determining net cost 5.30% 5.80% 6.50% immediately in our operating results. These gains and losses Long-term rate of return are measured annually as of December 31 and accordingly on plan assets 8.25% 8.25% 8.50% will be recorded during the fourth quarter, unless earlier Composite rate of compensation remeasurements are required. increase for determining projected benefit obligation 3.00% 4.00% 4.00% Composite rate of compensation increase for determining net pension cost (benefit) 4.00% 4.00% 4.00%

80 | AT&T Inc. Discount Rate Our assumed discount rate of 4.30% at Composite Rate of Compensation Increase Our expected December 31, 2012, reflects the hypothetical rate at which composite rate of compensation increase cost of 3.00% in the projected benefit obligations could be effectively 2013 and 4.00% in 2012 reflects the long-term average rate settled or paid out to participants. We determined our of salary increases. Based on historic salary increase discount rate based on a range of factors, including a yield experience and management’s expectations of future salary curve composed of the rates of return on several hundred increases, we reduced our expected composite rate of high-quality, fixed income corporate bonds available at the compensation increase assumption from 4.00% to 3.00% measurement date and the related expected duration for in 2013. the obligations. These bonds were all rated at least Aa3 Healthcare Cost Trend Our healthcare cost trend or AA- by one of the nationally recognized statistical rating assumptions are developed based on historical cost data, organizations, denominated in U.S. dollars, and neither the near-term outlook and an assessment of likely long-term callable, convertible nor index linked. For the year ended trends. In addition to the healthcare cost trend in 2012, December 31, 2012, we decreased our discount rate by we assumed an annual 3.00% growth in administrative 1.00%, resulting in an increase in our pension plan benefit expenses and an annual 3.00% growth in dental claims. obligation of $7,030 and an increase in our postretirement For 2013, we have assumed an annual 2.50% growth in benefit obligation of $4,546. For the year ended administrative expenses. Our assumed annual healthcare December 31, 2011, we decreased our discount rate cost trend rate for 2013 and 2012 is 5.00% and our by 0.50%, resulting in an increase in our pension plan ultimate trend rate is 5.00%. benefit obligation of $3,384 and an increase in our postretirement benefit obligation of $2,114. A one percentage-point change in the assumed combined medical and dental cost trend rate would have the following Expected Long-Term Rate of Return Our expected long- effects: term rate of return on plan assets reflects the average rate of earnings expected on the funds invested, or to be One Percentage- One Percentage- invested, to provide for the benefits included in the Point Increase Point Decrease projected benefit obligations. Our expected long-term rate Increase (decrease) in total of of return on plan assets assumption was 8.25% for the service and interest cost components $ 260 $ (208) year ended December 31, 2012. In 2013, due to the Increase (decrease) in accumulated continued uncertainty in the securities markets, the U.S. postretirement benefit obligation 3,676 (3,362) economy and the plans’ asset mix, we have lowered our expected long-term rate of return on plan assets to Plan Assets 7.75%. In setting the long-term assumed rate of return, Plan assets consist primarily of private and public equity, management considers capital markets future expectations government and corporate bonds, and real assets (real estate and the asset mix of the plans’ investments. Actual long- and natural resources). The asset allocations of the pension term return can, in relatively stable markets, also serve as plans are maintained to meet ERISA requirements. Any plan a factor in determining future expectations. We consider contributions, as determined by ERISA regulations, are made many factors that include, but are not limited to, historical to a pension trust for the benefit of plan participants. returns on plan assets, current market information on We have a required contribution to our pension plans for long-term returns (e.g., long-term bond rates) and current 2013 of approximately $300. and target asset allocations between asset categories. In October 2012, we filed an application with the U.S. The target asset allocation is determined based on Department of Labor (DOL) for approval to make a consultations with external investment advisers. If all voluntary contribution of a preferred equity interest in our other factors were to remain unchanged, we expect that Mobility business to the trust used to pay qualified pension a 0.50% decrease in the actual long-term rate of return benefits, under plans sponsored by AT&T. The preferred would cause 2013 combined pension and postretirement equity interest is estimated to be valued at $9,500 upon cost to increase $260. However, any differences in the rate contribution. We anticipate approval in 2013, and expect to and actual returns will be included with the actuarial gain make the contribution at that time. As currently proposed, or loss recorded in the fourth quarter when our plans are the preferred equity interest will not be included in plan remeasured. assets in our consolidated financial statements upon contribution, but will constitute a qualified plan asset for ERISA funding purposes. Final determination of whether it will qualify as a plan asset for financial reporting purposes is subject to the final terms of the preferred equity interest.

AT&T Inc. | 81 Notes to Consolidated Financial Statements (continued) Dollars in millions except per share amounts

We maintain VEBA trusts to partially fund postretirement Asset and benefit obligation forecasting studies are benefits; however, there are no ERISA or regulatory conducted periodically, generally every two to three years, requirements that these postretirement benefit plans or when significant changes have occurred in market be funded annually. conditions, benefits, participant demographics or funded status. Decisions regarding investment policy are made The principal investment objectives are to ensure the with an understanding of the effect of asset allocation on availability of funds to pay pension and postretirement funded status, future contributions and projected expenses. benefits as they become due under a broad range of future The current asset allocation policy and risk level for the economic scenarios, to maximize long-term investment pension plan and VEBA assets are based on a study return with an acceptable level of risk based on our pension completed and approved during 2011. and postretirement obligations, and to be broadly diversified across and within the capital markets to insulate asset The plans’ weighted-average asset targets and actual values against adverse experience in any one market. allocations as a percentage of plan assets, including the Each asset class has broadly diversified characteristics. notional exposure of future contracts by asset categories Substantial biases toward any particular investing style or at December 31, are as follows: type of security are sought to be avoided by managing the aggregation of all accounts with portfolio benchmarks.

Pension Assets Postretirement (VEBA) Assets Target 2012 2011 Target 2012 2011 Equity securities: Domestic 25% – 35% 26% 24% 32% – 42% 37% 39% International 10% – 20% 16 15 28% – 38% 33 31 Fixed income securities 30% – 40% 34 34 19% – 29% 24 21 Real assets 6% – 16% 11 11 0% – 6% 1 1 Private equity 4% – 14% 13 13 0% – 9% 4 5 Other 0% – 5% — 3 0% – 7% 1 3 Total 100% 100% 100% 100%

At December 31, 2012, AT&T securities represented less than the bid price or the average of the bid and asked price on 0.5% of assets held by our pension plans and VEBA trusts. the last business day of the year from published sources where available and, if not available, from other sources Investment Valuation considered reliable. Depending on the types and contractual Investments are stated at fair value. Fair value is the price terms of OTC derivatives, fair value is measured using that would be received to sell an asset or paid to transfer a valuation techniques, such as the Black-Scholes option liability in an orderly transaction between market participants pricing model, simulation models or a combination of at the measurement date. See “Fair Value Measurements” various models. for further discussion. Common/collective trust funds, pooled separate accounts, Investments in securities traded on a national securities and other commingled (103-12) investment entities are exchange are valued at the last reported sales price on the valued at quoted redemption values that represent the net last business day of the year. If no sale was reported on asset values of units held at year-end which management that date, they are valued at the last reported bid price. has determined approximates fair value. Investments in securities not traded on a national securities exchange are valued using pricing models, quoted prices of Alternative investments, including investments in private securities with similar characteristics or discounted cash equity, real estate, natural resources (included in real assets), flows. Shares of registered investment companies are valued mezzanine and distressed debt (included in partnerships/joint based on quoted market prices, which represent the net ventures), limited partnership interest, fixed income securities asset value of shares held at year-end. Over-the-counter and hedge funds do not have readily available market values. (OTC) securities and government obligations are valued at These estimated fair values may differ significantly from the

82 | AT&T Inc. values that would have been used had a ready market for such external pricing services is deemed inaccurate, the these investments existed, and such differences could be managers will then solicit broker/dealer quotes (spreads or material. Alternative investments not having an established prices). In cases where such quotes are available, fair value market are valued at fair value as determined by the will be determined based solely upon such quotes provided. investment managers. Private equity, mezzanine and Managers will typically use a pricing matrix for determining distressed investments are often valued initially by the fair value in cases where an approved pricing service or a investment managers based upon cost. Thereafter, investment broker/dealer is unable to provide a fair valuation for specific managers may use available market data to determine fixed-rate securities such as many private placements. adjustments to carrying value based upon observations New fixed-rate securities will be initially valued at cost at of the trading multiples of public companies considered the time of purchase. Thereafter, each bond will be assigned comparable to the private companies being valued. a spread from a pricing matrix that will be added to current Such market data used to determine adjustments to Treasury rates. The pricing matrix derives spreads for each accounts for cash flows and company-specified issues bond based on external market data, including the current include current operating performance and future credit rating for the bonds, credit spreads to Treasuries for expectations of the investments, changes in market outlook, each credit rating, sector add-ons or credits, issue specific and the third-party financing environment. Private equity add-ons or credits as well as call or other options. partnership holdings may also include publicly held equity Purchases and sales of securities are recorded as of the trade investments in liquid markets that are marked-to-market date. Realized gains and losses on sales of securities are at quoted public values, subject to adjustments for large determined on the basis of average cost. Interest income is positions held. Real estate and natural resource direct recognized on the accrual basis. Dividend income is investments are valued either at amounts based upon recognized on the ex-dividend date. appraisal reports prepared by independent third-party appraisers or at amounts as determined by internal appraisals Non-interest bearing cash and overdrafts are valued at cost, performed by the investment manager, which have been which approximates fair value. agreed to by an external valuation consultant. Fixed income securities valuation is based upon pricing provided by an Fair Value Measurements external pricing service when such pricing is available. In the See Note 9 “Fair Value Measurements and Disclosure” for a event a security is too thinly traded or narrowly held to be discussion of fair value hierarchy that prioritizes the inputs priced by such a pricing service, or the price furnished by to valuation techniques used to measure fair value.

AT&T Inc. | 83 Notes to Consolidated Financial Statements (continued) Dollars in millions except per share amounts

The following table sets forth by level, within the fair value hierarchy, the pension and postretirement assets and liabilities at fair value as of December 31, 2012:

Pension Assets and Liabilities at Fair Value as of December 31, 2012 Level 1 Level 2 Level 3 Total Non-interest bearing cash $ 144 $ — $ — $ 144 Interest bearing cash 56 235 — 291 Foreign currency contracts — 1 — 1 Equity securities: Domestic equities 8,291 — — 8,291 International equities 6,361 29 — 6,390 Fixed income securities: Asset-backed securities — 543 14 557 Mortgage-backed securities — 2,324 — 2,324 Collateralized mortgage-backed securities — 311 — 311 Collateralized mortgage obligations/REMICS — 523 1 524 Other Corporate and other bonds and notes 140 4,903 600 5,643 Government and municipal bonds 50 5,301 — 5,351 Private equity funds — — 5,797 5,797 Real estate and real assets — — 4,766 4,766 Commingled funds — 4,927 426 5,353 Securities lending collateral 868 1,930 1 2,799 Receivable for variation margin 72 — — 72 Assets at fair value 15,982 21,027 11,605 48,614 Investments sold short and other liabilities at fair value 563 7 — 570 Total plan net assets at fair value $15,419 $21,020 $11,605 $ 48,044 Other assets (liabilities)1 (2,984) Total Plan Net Assets $45,060 1Other assets (liabilities) include amounts receivable, accounts payable and net adjustment for securities lending payable.

Postretirement Assets and Liabilities at Fair Value as of December 31, 2012 Level 1 Level 2 Level 3 Total Interest bearing cash $ 169 $ 243 $ — $ 412 Equity securities: Domestic equities 2,575 — — 2,575 International equities 2,685 1 — 2,686 Fixed income securities: Asset-backed securities — 29 — 29 Collateralized mortgage-backed securities — 79 — 79 Collateralized mortgage obligations — 46 — 46 Other Corporate and other bonds and notes 1 383 17 401 Government and municipal bonds 22 598 — 620 Commingled funds 82 2,038 4 2,124 Private equity assets — — 343 343 Real assets — — 110 110 Securities lending collateral 544 81 — 625 Assets at fair value 6,078 3,498 474 10,050 Total plan net assets at fair value $6,078 $3,498 $474 $10,050 Other assets (liabilities)1 (755) Total Plan Net Assets $ 9,295 1Other assets (liabilities) include amounts receivable, accounts payable and net adjustment for securities lending payable.

84 | AT&T Inc. The tables below set forth a summary of changes in the fair value of the Level 3 pension and postretirement assets for the year ended December 31, 2012:

Fixed Private Real Estate Income Equity and Pension Assets Equities Funds Funds Real Assets Total Balance at beginning of year $ 4 $ 824 $ 5,931 $ 5,213 $ 11,972 Realized gains (losses) (1) 16 459 165 639 Unrealized gains (losses) 1 33 32 10 76 Transfers in — 120 12 24 156 Transfers out — (2) — — (2) Purchases — 142 610 918 1,670 Sales (4) (91) (1,247) (1,564) (2,906) Balance at end of year $ — $1,042 $5,797 $4,766 $11,605

Fixed Private Income Equity Postretirement Assets Funds Funds Real Assets Total Balance at beginning of year $24 $ 437 $ 124 $ 585 Realized gains (losses) — 58 16 74 Unrealized gains (losses) — (39) (5) (44) Purchases — 20 33 53 Sales (3) (133) (58) (194) Balance at end of year $21 $ 343 $ 110 $ 474

AT&T Inc. | 85 Notes to Consolidated Financial Statements (continued) Dollars in millions except per share amounts

The following tables set forth by level, within the fair value hierarchy, the pension and postretirement assets and liabilities at fair value as of December 31, 2011:

Pension Assets and Liabilities at Fair Value as of December 31, 2011 Level 1 Level 2 Level 3 Total Non-interest bearing cash $ 64 $ 1 $ — $ 65 Interest bearing cash 1 — — 1 Foreign currency contracts — 6 — 6 Equity securities: Domestic equities 8,299 5 — 8,304 International equities 5,873 62 4 5,939 Fixed income securities: Asset-backed securities — 413 8 421 Mortgage-backed securities — 3,038 — 3,038 Collateralized mortgage-backed securities — 316 — 316 Collateralized mortgage obligations/REMICS — 490 — 490 Other Corporate and other bonds and notes 105 5,386 420 5,911 Government and municipal bonds 71 4,695 — 4,766 Private equity funds — 1 5,931 5,932 Real estate and real assets — 10 5,213 5,223 Commingled funds — 6,092 393 6,485 Securities lending collateral 1,295 2,879 3 4,177 Assets at fair value 15,708 23,394 11,972 51,074 Investments sold short and other liabilities at fair value 600 6 — 606 Total plan net assets at fair value $15,108 $23,388 $11,972 $50,468 Other assets (liabilities)1 (4,561) Total Plan Net Assets $45,907 1Other assets (liabilities) include amounts receivable, accounts payable and net adjustment for securities lending payable.

Postretirement Assets and Liabilities at Fair Value as of December 31, 2011 Level 1 Level 2 Level 3 Total Interest bearing cash $ 30 $ 340 $ — $ 370 Equity securities: Domestic equities 2,964 1 — 2,965 International equities 2,579 1 — 2,580 Fixed income securities: Asset-backed securities — 51 — 51 Collateralized mortgage-backed securities — 60 — 60 Collateralized mortgage obligations — 28 — 28 Other Corporate and other bonds and notes — 334 19 353 Government and municipal bonds 48 619 — 667 Commingled funds 175 2,245 5 2,425 Private equity assets — 3 437 440 Real assets — — 124 124 Securities lending collateral 780 108 — 888 Receivable for foreign exchange contracts 3 — — 3 Assets at fair value 6,579 3,790 585 10,954 Foreign exchange contracts payable 3 — — 3 Liabilities at fair value 3 — — 3 Total plan net assets at fair value $6,576 $3,790 $585 $10,951 Other assets (liabilities)1 (1,061) Total Plan Net Assets $ 9,890 1Other assets (liabilities) include amounts receivable, accounts payable and net adjustment for securities lending payable.

86 | AT&T Inc. The tables below set forth a summary of changes in the fair value of the Level 3 pension and postretirement assets for the year ended December 31, 2011:

Fixed Private Real Estate Income Equity and Pension Assets Equities Funds Funds Real Assets Total Balance at beginning of year $ — $ 441 $ 5,617 $4,570 $ 10,628 Realized gains (losses) (1) 17 164 2 182 Unrealized gains (losses) 1 (6) 448 666 1,109 Transfers in 3 393 — — 396 Purchases 1 95 844 859 1,799 Sales — (116) (1,142) (884) (2,142) Balance at end of year $ 4 $ 824 $ 5,931 $5,213 $11,972

Fixed Private Income Equity Postretirement Assets Funds Funds Real Assets Total Balance at beginning of year $45 $ 496 $ 157 $ 698 Realized gains (losses) — 70 (28) 42 Unrealized gains (losses) — (23) 31 8 Purchases 8 175 53 236 Sales (29) (281) (89) (399) Balance at end of year $24 $ 437 $ 124 $ 585

Estimated Future Benefit Payments Supplemental Retirement Plans Expected benefit payments are estimated using the same We also provide certain senior- and middle-management assumptions used in determining our benefit obligation at employees with nonqualified, unfunded supplemental December 31, 2012. Because benefit payments will depend retirement and savings plans. While these plans are on future employment and compensation levels, average unfunded, we have assets in a designated nonbankruptcy years employed, average life spans, and payment elections, remote trust that are independently managed and used to among other factors, changes in any of these factors could provide for these benefits. These plans include supplemental significantly affect these expected amounts. The following pension benefits as well as compensation-deferral plans, table provides expected benefit payments under our pension some of which include a corresponding match by us based and postretirement plans: on a percentage of the compensation deferral. Medicare We use the same significant assumptions for the discount Pension Postretirement Subsidy rate and composite rate of compensation increase used in Benefits Benefits Receipts determining the projected benefit obligation and the net 2013 $ 4,697 $2,371 $ (18) pension and postemployment benefit cost. The following 2014 4,395 2,249 (20) tables provide the plans’ benefit obligations and fair value 2015 4,282 2,180 (23) of assets at December 31 and the components of the 2016 4,215 2,131 (26) supplemental retirement pension benefit cost. The net 2017 4,169 2,076 (30) amount recorded as “Other noncurrent liabilities” on our Years 2018 – 2022 20,286 9,924 (195) consolidated balance sheets at December 31, 2012, was $2,456 and $2,294 at December 31, 2011.

AT&T Inc. | 87 Notes to Consolidated Financial Statements (continued) Dollars in millions except per share amounts

The following table provides information for our supplemental Our match of employee contributions to the savings plans retirement plans with accumulated benefit obligations in is fulfilled with purchases of our stock on the open market excess of plan assets: or company cash. Benefit cost is based on the cost of shares or units allocated to participating employees’ 2012 2011 accounts and was $634, $636 and $607 for the years Projected benefit obligation $(2,456) $(2,294) ended December 31, 2012, 2011 and 2010. Accumulated benefit obligation (2,392) (2,223) Fair value of plan assets — — NOTE 12. SHARE-BASED PAYMENTS The following tables present the components of net periodic We account for our share-based payment arrangements benefit cost and other changes in plan assets and benefit based on the fair value of the awards on their respective obligations recognized in OCI: grant date, which may affect our ability to fully realize the value shown on our consolidated balance sheets of deferred Net Periodic Benefit Cost 2012 2011 2010 tax assets associated with compensation expense. We record Service cost – benefits earned a valuation allowance when our future taxable income is not during the period $ 10 $ 14 $ 12 expected to be sufficient to recover the asset. Accordingly, Interest cost on projected there can be no assurance that the current stock price of benefit obligation 116 126 134 our common shares will rise to levels sufficient to realize the Amortization of prior entire tax benefit currently reflected on our consolidated service cost (credit) — 2 2 balance sheets. However, to the extent we generate excess Actuarial (gain) loss 230 81 186 tax benefits (i.e., that additional tax benefits in excess of Net supplemental retirement the deferred taxes associated with compensation expense pension cost $356 $223 $334 previously recognized) the potential future impact on income would be reduced. Other Changes Recognized in Other Comprehensive Income 2012 2011 2010 At December 31, 2012, we had various share-based payment Prior service (cost) credit $(1) $6 $(5) arrangements, which we describe in the following discussion. Amortization of prior The compensation cost recognized for those plans was service cost (credit) — 1 (2) included in operating expenses in our consolidated Total recognized in other statements of income. The total income tax benefit comprehensive (income) recognized in the consolidated statements of income for loss (net of tax) $(1) $7 $(7) share-based payment arrangements was $195 for 2012, compared to $187 for 2011 and $196 for 2010. The estimated prior service credit for our supplemental retirement plan benefits that will be amortized from Under our various plans, senior and other management accumulated OCI into net periodic benefit cost over the employees and nonemployee directors have received next fiscal year is $1. nonvested stock and stock units. We grant performance stock units, which are nonvested stock units, based upon our stock Deferred compensation expense was $118 in 2012, $96 in price at the date of grant and award them in the form of 2011 and $96 in 2010. Our deferred compensation liability, AT&T common stock and cash at the end of a three-year included in “Other noncurrent liabilities,” was $1,061 at period, subject to the achievement of certain performance December 31, 2012, and $1,010 at December 31, 2011. goals. We treat the cash portion of these awards as a liability. Contributory Savings Plans We grant forfeitable restricted stock and stock units, which We maintain contributory savings plans that cover are valued at the market price of our common stock at the substantially all employees. Under the savings plans, we date of grant and vest typically over a two- to seven-year match in cash or company stock a stated percentage of eligible employee contributions, subject to a specified ceiling. There are no debt-financed shares held by the Employee Stock Ownership Plans, allocated or unallocated.

88 | AT&T Inc. period. We also grant other nonvested stock units and The compensation cost that we have charged against income award them in cash at the end of a three-year period, for our share-based payment arrangements was as follows: subject to the achievement of certain market based 2012 2011 2010 conditions. As of December 31, 2012, we were authorized to issue up to 111 million shares of common stock (in Performance stock units $397 $388 $411 addition to shares that may be issued upon exercise of Restricted stock and stock units 102 91 85 outstanding options or upon vesting of performance stock Other nonvested stock units 12 4 11 Other — 6 6 units or other nonvested stock units) to officers, employees and directors pursuant to these various plans. Total $511 $489 $513

A summary of option activity as of December 31, 2012, and changes during the year then ended, is presented below (shares in millions):

Weighted-Average Weighted-Average Remaining Contractual Aggregate Options Shares Exercise Price Term (Years) Intrinsic Value1 Outstanding at January 1, 2012 66 $30.62 1.99 $148 Exercised (18) — Forfeited or expired (31) — Outstanding at December 31, 2012 17 27.38 4.53 123 Exercisable at December 31, 2012 17 $27.37 4.51 $123 1Aggregate intrinsic value includes only those options with intrinsic value (options where the exercise price is below the market price).

It is our policy to satisfy share option exercises using our AT&T common stock. We began buying back stock under this treasury stock. Cash received from stock option exercises was program in 2012 and completed the purchase of authorized $517 for 2012, $250 for 2011 and $55 for 2010. shares that year. In July 2012, the Board of Directors authorized the repurchase of an additional 300 million A summary of the status of our nonvested stock units as of shares, under which we are currently purchasing shares. December 31, 2012, and changes during the year then ended For the year ended December 31, 2012, we had repurchased is presented as follows (shares in millions): approximately 371 million shares totaling $12,752 under Weighted-Average these authorizations. We expect to continue repurchasing Nonvested Stock Units Shares Grant-Date Fair Value our common stock and plan to complete the repurchases Nonvested at January 1, 2012 27 $ 26.53 under the July 2012 authorization as early as mid-year. Granted 13 30.18 Vested (13) 25.87 To implement these authorizations, we use open market Forfeited (1) 28.32 repurchase programs, relying on Rule 10b5-1 of the Securities Exchange Act of 1934 where feasible. We also use Nonvested at December 31, 2012 26 $28.55 accelerated share repurchase programs with large financial As of December 31, 2012, there was $314 of total institutions to repurchase our stock. unrecognized compensation cost related to nonvested share- Authorized Shares There are 14 billion authorized common based payment arrangements granted. That cost is expected shares of AT&T stock and 10 million authorized preferred to be recognized over a weighted-average period of two years. shares of AT&T stock. As of December 31, 2012 and 2011, The total fair value of shares vested during the year was $333 no preferred shares were outstanding. for 2012, compared to $360 for 2011 and $397 for 2010. Dividend Declarations In November 2012, the Company NOTE 13. STOCKHOLDERS’ EQUITY declared an increase in its quarterly dividend to $0.45 per share of common stock. In December 2011, the Company Stock Repurchase Program From time to time, we declared a quarterly dividend of $0.44 per share of common repurchase shares of common stock for distribution through stock, which reflected an increase from the $0.43 quarterly our employee benefit plans or in connection with certain dividend declared in December 2010. acquisitions. In December 2010, the Board of Directors authorized the repurchase of up to 300 million shares of

AT&T Inc. | 89 Notes to Consolidated Financial Statements (continued) Dollars in millions except per share amounts

NOTE 14. ADDITIONAL FINANCIAL INFORMATION subject to negotiation. In addition, during 2012, we entered into a new national four-year contract covering only benefits December 31, with the approximately 40,000 employees in our mobility Consolidated Balance Sheets 2012 2011 business; contracts covering wages and other non-benefit Accounts payable and accrued liabilities: working terms for these mobility employees are structured Accounts payable $12,076 $10,485 on a regional basis and one regional contract for 20,000 Accrued payroll and commissions 2,332 2,170 employees expired during February 2013. Contracts Current portion of employee covering approximately 30,000 non-mobility employees benefit obligation 2,116 2,288 will expire during 2013, including approximately 20,000 Accrued interest 1,588 1,576 wireline employees in our five-state Southwest region. Other 2,799 3,437 On February 6, 2013, we announced a tentative agreement Total accounts payable and with the CWA covering the wireline employees in our accrued liabilities $20,911 $19,956 Southwest region; this agreement is subject to ratification by these employees. After expiration of the current agreements, work stoppages or labor disruptions may Consolidated Statements of Income 2012 2011 2010 occur in the absence of new contracts or other agreements Advertising expense $2,910 $3,135 $2,982 being reached. Interest expense incurred $3,707 $3,697 $3,766 American Tower Corp. Agreement In August 2000, Capitalized interest (263) (162) (772) we reached an agreement with American Tower Corp. Total interest expense $3,444 $3,535 $2,994 (American Tower) under which we granted American Tower the exclusive rights to lease space on a number of our communications towers. In exchange, we received a Consolidated Statements of Cash Flows 2012 2011 2010 combination of cash and equity instruments as complete Cash paid during the year for: prepayment of rent with the closing of each leasing Interest $3,696 $3,722 $3,882 agreement. The value of the prepayments was recorded Income taxes, net of refunds 458 32 3,538 as deferred revenue and recognized in income as revenue over the life of the leases. The balance of deferred revenue Consolidated Statements of was $420 in 2012, $450 in 2011, and $480 in 2010. Changes in Stockholders’ Equity 2012 2011 2010 No customer accounted for more than 10% of consolidated Foreign currency translation revenues in 2012, 2011 or 2010. adjustment $ (284) $ (371) $ (494) Net unrealized gains (losses) on NOTE 15. CONTINGENT LIABILITIES available-for-sale securities 272 222 316 Net unrealized gains (losses) on We are party to numerous lawsuits, regulatory proceedings cash flow hedges (110) (421) (180) and other matters arising in the ordinary course of Defined benefit postretirement business. In evaluating these matters on an ongoing basis, plans 5,358 3,750 3,070 we take into account amounts already accrued on the Accumulated other balance sheet. In our opinion, although the outcomes of comprehensive income $5,236 $3,180 $2,712 these proceedings are uncertain, they should not have a material adverse effect on our financial position, results Labor Contracts As of January 31, 2013, we employed of operations or cash flows. approximately 242,000 persons. Approximately 55 percent of our employees are represented by the Communications We have contractual obligations to purchase certain goods or Workers of America (CWA), the International Brotherhood services from various other parties. Our purchase obligations of Electrical Workers or other unions. Contracts covering are expected to be approximately $3,744 in 2013, $3,890 in approximately 77,000 (as of December 31, 2012) employees total for 2014 and 2015, $1,469 in total for 2016 and 2017 expired during 2012 and we have reached new contracts and $457 in total for years thereafter. covering approximately 57,000 of those employees. See Note 9 for a discussion of collateral and credit-risk Contracts covering wireline employees in California, contingencies. Connecticut and Nevada expired in April 2012 and remain

90 | AT&T Inc. NOTE 16. QUARTERLY FINANCIAL INFORMATION (UNAUDITED) The following tables represent our quarterly financial results:

2012 Calendar Quarter First Second Third Fourth2 Annual Total Operating Revenues $31,822 $31,575 $31,459 $32,578 $127,434 Operating Income (Loss) 6,101 6,817 6,037 (5,958) 12,997 Net Income (Loss) 3,652 3,965 3,701 (3,779) 7,539 Net Income (Loss) Attributable to AT&T 3,584 3,902 3,635 (3,857) 7,264 Basic Earnings (Loss) Per Share Attributable to AT&T1 $ 0.60 $ 0.67 $ 0.63 $ (0.68) $ 1.25 Diluted Earnings (Loss) Per Share Attributable to AT&T1 $ 0.60 $ 0.66 $ 0.63 $ (0.68) $ 1.25 Stock Price High $ 31.97 $ 36.00 $ 38.58 $ 38.43 Low 29.02 29.95 34.24 32.71 Close 31.23 35.66 37.70 33.71 1Quarterly earnings per share impacts may not add to full-year earnings per share impacts due to the difference in weighted-average common shares for the quarters versus the weighted-average common shares for the year. 2Includes an actuarial loss on pension and postretirement benefit plans (Note 11).

2011 Calendar Quarter First Second Third Fourth2 Annual Total Operating Revenues $31,247 $31,495 $31,478 $32,503 $126,723 Operating Income (Loss) 5,808 6,165 6,235 (8,990) 9,218 Net Income (Loss) 3,468 3,658 3,686 (6,628) 4,184 Net Income (Loss) Attributable to AT&T 3,408 3,591 3,623 (6,678) 3,944 Basic Earnings (Loss) Per Share Attributable to AT&T1 $ 0.57 $ 0.60 $ 0.61 $ (1.12) $ 0.66 Diluted Earnings (Loss) Per Share Attributable to AT&T1 $ 0.57 $ 0.60 $ 0.61 $ (1.12) $ 0.66 Stock Price High $ 30.97 $ 31.94 $ 31.78 $ 30.30 Low 27.20 29.91 27.29 27.41 Close 30.61 31.41 28.52 30.24 1Quarterly earnings per share impacts may not add to full-year earnings per share impacts due to the difference in weighted-average common shares for the quarters versus the weighted-average common shares for the year. 2Includes an actuarial loss on pension and postretirement benefit plans (Note 11), T-Mobile breakup fee (Note 4) and impairment of intangible assets (Note 6).

AT&T Inc. | 91 Report of Management Dollars in millions except per share amounts

The consolidated financial statements have been prepared in conformity with U.S. generally accepted accounting principles. The integrity and objectivity of the data in these financial statements, including estimates and judgments relating to matters not concluded by year end, are the responsibility of management, as is all other information included in the Annual Report, unless otherwise indicated. The financial statements of AT&T Inc. (AT&T) have been audited by Ernst & Young LLP, Independent Registered Public Accounting Firm. Management has made available to Ernst & Young LLP all of AT&T’s financial records and related data, as well as the minutes of stockholders’ and directors’ meetings. Furthermore, management believes that all representations made to Ernst & Young LLP during its audit were valid and appropriate. Management maintains disclosure controls and procedures that are designed to ensure that information required to be disclosed by AT&T is recorded, processed, summarized, accumulated and communicated to its management, including its principal executive and principal financial officers, to allow timely decisions regarding required disclosure, and reported within the time periods specified by the Securities and Exchange Commission’s rules and forms. Management also seeks to ensure the objectivity and integrity of its financial data by the careful selection of its managers, by organizational arrangements that provide an appropriate division of responsibility and by communication programs aimed at ensuring that its policies, standards and managerial authorities are understood throughout the organization. The Audit Committee of the Board of Directors meets periodically with management, the internal auditors and the independent auditors to review the manner in which they are performing their respective responsibilities and to discuss auditing, internal accounting controls and financial reporting matters. Both the internal auditors and the independent auditors periodically meet alone with the Audit Committee and have access to the Audit Committee at any time. Assessment of Internal Control The management of AT&T is responsible for establishing and maintaining adequate internal control over financial reporting, as defined in Rule 13a-15(f) or 15d-15(f) under the Securities Exchange Act of 1934. AT&T’s internal control system was designed to provide reasonable assurance to the company’s management and Board of Directors regarding the preparation and fair presentation of published financial statements. AT&T management assessed the effectiveness of the company’s internal control over financial reporting as of December 31, 2012. In making this assessment, it used the criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission (COSO) in Internal Control – Integrated Framework. Based on its assessment, AT&T management believes that, as of December 31, 2012, the Company’s internal control over financial reporting is effective based on those criteria. Ernst & Young LLP, the independent registered public accounting firm that audited the financial statements included in this Annual Report, has issued an attestation report on the company’s internal control over financial reporting.

Randall Stephenson John J. Stephens Chairman of the Board, Senior Executive Vice President and Chief Executive Officer and President Chief Financial Officer

92 | AT&T Inc. Report of Independent Registered Public Accounting Firm Dollars in millions except per share amounts

The Board of Directors and Stockholders of AT&T Inc. We have audited the accompanying consolidated balance sheets of AT&T Inc. (the Company) as of December 31, 2012 and 2011, and the related consolidated statements of income, comprehensive income, changes in stockholders’ equity, and cash flows for each of the three years in the period ended December 31, 2012. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of the Company at December 31, 2012 and 2011, and the consolidated results of its operations and its cash flows for each of the three years in the period ended December 31, 2012, in conformity with U.S. generally accepted accounting principles. We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the Company’s internal control over financial reporting as of December 31, 2012, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission and our report dated February 22, 2013 expressed an unqualified opinion thereon.

Dallas, Texas February 22, 2013

AT&T Inc. | 93 Report of Independent Registered Public Accounting Firm on Internal Control over Financial Reporting

The Board of Directors and Stockholders of AT&T Inc. We have audited AT&T Inc.’s (the Company) internal control over financial reporting as of December 31, 2012, based on criteria established in Internal Control–Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (the COSO criteria). The Company’s management is responsible for maintaining effective internal control over financial reporting, and for its assessment of the effectiveness of internal control over financial reporting included in the accompanying Report of Management. Our responsibility is to express an opinion on the Company’s internal control over financial reporting based on our audit. We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, testing and evaluating the design and operating effectiveness of internal control based on the assessed risk, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion. A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of the company’s assets that could have a material effect on the financial statements. Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate. In our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of December 31, 2012, based on the COSO criteria. We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheets of the Company as of December 31, 2012 and 2011, and the related consolidated statements of income, comprehensive income, changes in stockholders’ equity, and cash flows for each of the three years in the period ended December 31, 2012 and our report dated February 22, 2013 expressed an unqualified opinion thereon.

Dallas, Texas February 22, 2013

94 | AT&T Inc. AT&T Inc. Board of Directors

Randall L. Stephenson, 52 (4) Jaime Chico Pardo, 63 (1,2) John B. McCoy, 69 (3,4,5) Chairman of the Board, Founder and Chief Executive Officer Retired Chairman and Chief Executive Officer and President ENESA Chief Executive Officer AT&T Inc. Director since 2008 Bank One Corporation Dallas, Texas Background: Telecommunications, Director since 1999 Director since 2005 banking Ameritech Director 1991–1999 Background: Telecommunications Background: Banking

Scott T. Ford, 50 (2,6) James H. Blanchard, 71 (2,4,5) Partner Joyce M. Roché, 65 (3,6) Lead Director Westrock Capital Partners, LLC Retired President and Chairman of the Board Director since June 2012 Chief Executive Officer and Partner Background: Telecommunications Girls Incorporated Jordan-Blanchard Capital, LLC Director since 1998 Director since 2006 Southern New England Telecommunications BellSouth Corporation Director 1994–2006 Director 1997–1998 (1,3) BellSouth Telecommunications James P. Kelly, 69 Background: Marketing Director 1988–1994 Retired Chairman of the Board Background: Financial services and Chief Executive Officer United Parcel Service, Inc. Director since 2006 Matthew K. Rose, 53 (2,5) BellSouth Corporation Director 2000–2006 Chairman and Chief Executive Officer Gilbert F. Amelio, Ph.D., 70 (2,4,5) Background: Air delivery and freight services Burlington Northern Santa Fe, LLC Former Senior Partner Director since 2010 Sienna Ventures Background: Freight transport Director since 2001 (1,3,4) Advisory Director 1997–2001 Jon C. Madonna, 69 Pacific Telesis Director 1995–1997 Retired Chairman and (1,6) Background: Technology, electronics engineering Chief Executive Officer Laura D’Andrea Tyson, Ph.D., 65 KPMG S. K. and Angela Chan Professor of Director since 2005 Global Management AT&T Corp. Director 2002–2005 Haas School of Business Reuben V. Anderson, 70 (3,4,6) Background: Public accounting University of California at Berkeley Senior Partner Director since 1999 Phelps Dunbar, LLP Ameritech Director 1997–1999 Director since 2006 Background: Economics, education (1) BellSouth Corporation Michael B. McCallister, 60 Director 1994–2006 Chairman of the Board Background: Law Humana Inc. Director since February 2013 Background: Health care

Committees of the Board: (1) Audit (2) Corporate Development and Finance (3) Corporate Governance and Nominating (4) Executive (5) Human Resources (6) Public Policy and Corporate Reputation

(Information is provided as of March 11, 2013.)

AT&T Inc. | 95 Executive Officers of AT&T Inc. and Its Affiliates

Randall Stephenson, 52 Cathy Coughlin, 55 Andy Geisse, 56 John Stephens, 53 Chairman, Chief Executive Officer Senior Executive Vice President Chief Executive Officer- Senior Executive Vice President and President and Global Marketing Officer AT&T Business Solutions and Chief Financial Officer

Bill Blase Jr., 57 Ralph de la Vega, 61 Lori Lee, 47 Wayne Watts, 59 Senior Executive Vice President- President and Chief Executive Officer, Executive Vice President- Senior Executive Vice President Human Resources AT&T Mobility Home Solutions and General Counsel

Jim Cicconi, 60 John Donovan, 52 John Stankey, 50 Senior Executive Vice President- Senior Executive Vice President- Group President and External and Legislative Affairs, AT&T Technology and Chief Strategy Officer AT&T Services, Inc. Network Operations

(Information is provided as of February 22, 2013.)

96 | AT&T Inc. Stockholder Information

Toll-Free Stockholder Hotline DirectSERVICE Investment Program SEC Filings Call us at 1-800-351-7221 between 8 a.m. The DirectSERVICE Investment Program for AT&T Inc.’s U.S. Securities and and 7 p.m. Central time, Monday through Stockholders of AT&T Inc. is sponsored and Exchange Commission filings, including Friday (TDD 1-888-403-9700) for help with: administered by Computershare Trust the latest 10-K and proxy statement, Company, N.A. The program allows current are available on our website at • Common stock account inquiries stockholders to reinvest dividends, purchase www.att.com/investor.relations • Requests for assistance with your common additional AT&T Inc. stock or enroll in an stock account, including stock transfers individual retirement account. Investor Relations • Information on The DirectSERVICETM Securities analysts and other members Investment Program for Stockholders of For more information, call 1-800-351-7221. of the professional financial community AT&T Inc. (sponsored and administered by may contact the Investor Relations staff Computershare Trust Company, N.A.) Stock Trading Information as listed on our website at AT&T Inc. is listed on the www.att.com/investor.relations Written Stockholder Requests New York Stock Exchange. Please mail all account inquiries Ticker symbol: T Independent Auditor and other requests for assistance Ernst & Young LLP regarding your stock ownership to: Information on the Internet 2323 Victory Ave., Suite 2000 Information about AT&T Inc. is available Dallas, TX 75219 AT&T Inc. on the Internet at www.att.com c/o Computershare Trust Company, N.A. Corporate Offices and P.O. Box 43078 Annual Meeting Non-Stockholder Inquiries The annual meeting of stockholders Providence, RI 02940-3078 AT&T Inc. will be held at 9 a.m. local time 208 S. Akard St. You may also reach the Friday, April 26, 2013, at: Dallas, TX 75202 transfer agent for AT&T Inc. 210-821-4105 at [email protected] Little America Hotel & Resort or visit the website at 2800 West Lincolnway www.computershare.com/att Cheyenne, WY 82009

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© 2013 AT&T Intellectual Property. All rights reserved. AT&T, the AT&T logo and all other marks contained herein are trademarks of AT&T Intellectual Property and/or AT&T affiliated companies. All brands, product names, company names, trademarks and service marks are the properties of their respective owners.

1 “Global Consumer Telematics Penetration in New Cars to Reach 62% by 2016, According to ABI Research,” Dominique Bonte, Vice President and Practice Director, Navigation, Telematics & M2M, ABI Research. 2 IDC, Enterprise Cloud Public and Private End-User Adoption Signals Continued Shift in IT Spending, doc # 237171, October 2012. 3 Gartner, Forecast: Public Cloud Services, Worldwide, 2010-2016, 4Q12 Update, December 2012. The Gartner Report(s) described herein, (the “Gartner Report(s)”) represent(s) data, research opinion or viewpoints published, as part of a syndicated subscription service, by Gartner, Inc. (“Gartner”), and are not representations of fact. Each Gartner Report speaks as of its original publication date (and not as of the date of this annual report) and the opinions expressed in the Gartner Report(s) are subject to change without notice. 4 AT&T is not endorsed by or affiliated with the U.S. Armed Forces.

On Cover Our new 10,000-square-foot AT&T flagship store on Chicago’s Michigan Avenue is revolutionizing the retail customer experience. Lifestyle Boutiques organize products, apps and services around customers’ needs and interests. And the Experience Platform showcases what’s next in wireless technology, including the connected car and connected home. It all comes together to show customers the possibilities of living mobile. In January 2013, the Retail Design Institute recognized the store with two awards — for service retail and for customer experience and sales technology.

AT&T Online Annual Report

To learn more about how AT&T is working every day to deliver a great network experience to customers, transform the way we live and work and improve our communities, visit the 2012 AT&T online annual report: www.att.com/annualreport2012 AT&T Inc.

208 S. Akard St. Dallas, TX 75202

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